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INVESTING FOR 
PROFIT 



By G. C. Selden 



[Associate Editor of ''The Magacine of Wall Street" ; 
Author of "Psychology of the Stock Market," and 
"Interpreting Financial Conditions" ; formerly Schiff 
Fellow of Political F.conomy and Finance at Columbia 
University, Editorial Statistician U. S. Census Depart- 
ment, etc.] 



THE MAGAZINE OF WALL STREET 

120 LIBERTY STREET 
NEW YORK 



^<3 45-2,1 



0CT-9l9r4 

©CI,.A380777 



PREFACE 

THE following chapters first appeared as a 
series of articles in The Magazine of 
Wall Street. They are republished in book 
form in response to a considerable demand 
for information of this character. 

It is believed that Chapters VIII. and IX. 
contain the most thorough explanation of the 
relation between bank deposits and loans 
that has as yet appeared. 

G. C. Selden. 
New York, July 21, 1913. 



Copyright, 1913 

by 

The Magazine of Wall Street 



CONTENTS. 

I. Some Underlying Principles.... 9 

II. Distribution of Investments for 

Profit 21 

III. When Should Bonds Be Bought 

for Profit? 33 

IV. The Selection of Growing Rail- 

road Stocks 49 

V. When to Buy Standard Rails ... 67 

VI. Buying Industrial Stocks 81 

VII. Buying Stocks in Dull Times- 
Mining Stocks 93 

VIII. When to Buy and Sell, as Shown 
by the New York Bank 
Statement 103 

IX. The New York Bank Statement 

(Concluded) 119 

X. How to Interpret the Action of 

the Market 137 

XI. What to Do with Idle Money. . . 149 

XII. The Three Sources of Profit in 

Buying Securities 163 



I — Some Underlying Principles 

IXVEST.AIEXT is defined as "the 
placing of capital in a more or less 
permanent way, mainly for the in- 
come to be derived therefrom." 

In the very nature of the case the def- 
inition of investment cannot be rigid 
and clear-cut, because the idea itself is 
not rigid or clear-cut. Like nearly all 
the terms used in finance or in the 
marketplace, the word is used in a variety 
of ways and has several gradations of 
meaning : 

(1) The placing of capital for income 
only, the risk of loss being so slight as 
to be considered negligible. The income 
from such an investment is necessarily 
small, because the element of risk is al- 
most eliminated. 

(2) The placing of capital for income 
only, but in a security which contains a 
slight possibility of loss — or a ''business 
man's risk,'' as it is commonly called. 
In this case, the investor depends to a 
certain degree upon his knowledge of 



10 INVESTING FOR PROFIT. 



1 



financial or business conditions in form- 
ing his opinion as to the safety of his 
investment. He therefore obtains a 
somewhat higher rate of interest, the ad- 
ditional per cent, being in payment for 
additional risk or for the degree of 
judgment which he has exercised in 
making the purchase. 

(3) The placing of capital for income, 
but also with the expectation of an in- 
crease in the value of the principal — in 
other words, investment for profits as 
well as for interest. 

Whether investment for profit should 
be called a science or an art is a mere 
quibble over words. Investment for in- 
come is commonly called a science, and 
scientific principles may certainly be ap- 
plied to investment for profits, but in its 
main features it might perhaps better be 
called an art. 

It is doubtful if the intelligent investor 
for profit, who works on sound prin- 
ciples and with deliberate judgment, 
takes any greater risk than the investor 
described under (2) above, who accepts 
the business man's risk. 

For example, in 1902 Minneapolis & 
St. Louis 1st & Refunding 4's of 1949, 
selling at 106, were considered at least a 



UNDERLYING PRINCIPLES. 11 

business man's risk, if not better, yet 
they dropped to 61 in 1912; while 
American Beet Sugar preferred, paying 
6 per cent, and selling around 80 in 
1902, would have been ranked some- 
where between a business man's risk and 
a speculation, yet in 1912 it was selling 
at par, after having yielded 7>< per cent, 
interest during the entire 10 years on an 
investment made at 80. 

It is intelligence that commands the 
large income returns, whether in the in- 
vestment business or any other business. 

This example also illustrates another 
important fact, namely, that the careful 
investor for profit often gets, in addi- 
tion to his profits, a larger income return 
than the investor for income only. This 
is because the securities which are most 
likely to increase in value are generally 
those of growing companies and have 
not yet become ''seasoned." For this 
reason such securities sell at a low price 
compared with their interest return. 

The investor for profit does not 
primarily aim at a high interest yield. 
He tries to get merely an ordinary in- 
come return, coupled with an increase in 
value. But he is likely to find himself, 
without any special intention, receiving 



12 INVESTING FOR PROFIT. 

a relatively high rate of interest in 
addition. 

The distinction between investing for 
income and investing for profit is not so 
great as might at first appear. The first 
consideration in an investment for in- 
come is usually said to be safety. This 
means, of course, safety against the loss 
of any part of the principal. But this 
includes a consideration of future prices, 
just as truly as though the investment 
had been made with the expectation of 
an increase in value. 

The investor for profits tries to select 
a security that zvill grozv, while the in- 
vestor for income tries to select one that 
will not shrink. 

The difference is in degree rather than 
in kind. The element of risk can never 
be entirely eliminated. Even if we were 
to assume that the U. S. Government is 
indestructible, so that the holder of a 
Government bond is certain to receive 
the full par value of the bond at matur- 
ity, there is still to be considered the risk 
involved in the changing value of money. 
A rise in the cost of living means a fall 
in the value of money, and consequently 
a vShrinkage in the real value of the bond, 



UNDERLYING PRINCIPLES. 13 

which can only be truly measured by 
what the bond will buy. 

This view of the matter has been 
forced home upon investors within the 
past few years by the rapid rise in all 
prices. Investors have supposed that 
they were taking little or no risk because 
for every $1,000 invested they were sure 
to get back $1,000 at maturity of the 
obHgation. They have awaked to dis- 
cover that the $1,000 at maturity would 
buy only two-thirds or three-fourths as 
much of any useful or desirable article 
as when the investment was made. 

Safety, then, can never be absolute ; it 
is a question of degree. The investor 
for profit seeks a growing margin above 
the line of safety which will yield him 
additional capital. The investor for in- 
come only must likewise study to avoid 
any shrinkage below the line of safety 
which will encroach upon his principal. 

There are many who look upon the art 
of investing for profit as a mysterious 
and difficult ''knack.'' They say of an 
unusually successful man, ''He is a 
natural money-maker," or "Everything 
he touches turns to money." 

Perhaps one-tenth of the returns ob- 
tained by a successful investor for profit 



14 INVESTING FOR PROFIT. 

should be charged to natural bent or 
talent for money-making; but the other 
nine-tenths would certainly be found to 
be due to his first learning the business, 
then making a careful and painstaking 
investigation of every proposition before 
putting capital into it, studying all the 
conditions surrounding the business of 
the company, comparing prices with con- 
ditions, and in general applying to the 
investment the same degree of thought, 
caution and mature consideration that 
he would apply to the active management 
of any business enterprise in which he 
was engaged. 

How many losing investors can truth- 
fully say that they have done all this? 
In ninety-nine cases out of one hundred 
they invested "on the recommendation 
of a friend/' or on the strength of allur- 
ing advertising matter, or because of 
some half-considered notion, never care- 
fully investigated, or for some other 
equally inadequate reason. 

Only three qualifications are necessary 
in order to learn the art of investing for 
profit : 

(1) Ordinary common sense. 

(2) Willingness to make industrious 



UNDERLYING PRINCIPLES. 15 

and constant use of your powers of ob- 
servation, reasoning and inquiry. 

(3) Patience to go slowly until actual 
experience has confirmed the soundness 
of your judgment and of your methods. 

These three requirements are not easy, 
but they are not dependent upon any 
special talent and they are within the 
reach of most persons who are willing 
to make an efifort proportionate to the 
results they hope to achieve. 

As to the opportunities for this kind 
of investment, they are almost innumer- 
able. The inexperienced investor is 
likely to argue with himself somewhat 
as follow^s : 

''Look at the millions of dollars owned 
by great capitalists or piled up in banks 
awaiting good opportunities for invest- 
ment. A large part of this money be- 
longs to men who are ihemselves direct- 
ors in the big corporations, or to bank- 
ers who know every development in all 
the money markets of the world. What 
chance have I in comparison with these 
men ? They are bound to skim the cream 
from every proposition before they let 
us little fellows in. They simply use us 
to unload on when they want to stand 
from under.'' 



16 INVESTING FOR PROFIT. 

Now there is a point of view from 
which this is at least partly true. The 
great banking and corporation interests 
certainly have better opportunities for 
knowing future developments than the 
average small investor and they will 
usually be able to get more profitable 
results. 

But the special advantages of the large 
investor as compared with the small are 
very much over-estimated. The most 
essential facts in regard to the money 
market and the condition of important 
corporations are public property. Cer- 
tain companies pursue a policy of 
secrecy, and these the outside investor 
must leave severely alone ; but so far as 
the big railroads and many of the im- 
portant industrials of this country are 
concerned, the main facts about their 
condition, earnings and prospects are 
spread broadcast. An officer or director 
may have more exact knowledge than 
the public as to the date on which a 
dividend will be raised or lowered, but 
the public may, if it wishes, know very 
nearly as much as he about the earnings 
which underlie the dividend — and that, 
after all, is the important thing. 

Moreover, the fact that leading bank- 



UNDERLYING PRINCIPLES. 17 

ing interests can make their money earn 
a larger return than you can get on 
yours, does not prevent you from mak- 
ing a moderate profit. They are a long 
way from usurping the entire field. 
There is still plenty of room left for 
you. 

Facts are the best answer to this argu- 
ment of the pessimist. For example, in 
1903 LTnited States Steel preferred sold 
at 49^)4 • It was then paying and has 
continuously paid ever since 7 per cent, 
on par or over 14 per cent, on a price of 
49^. In 1909 it sold at 131. 

If inside interests knew all the facts 
and had abundant capital, why didn't 
they buy all the Steel preferred that was 
oflfered between 50 and 60? Why was 
the small investor given the opportunity 
to pick up this bonanza at 50? Similar 
examples might be taken from the his- 
tory of any well-known stock or bond. 

Whatever advantages inside interests 
may have compared with the ordinary in- 
vestor, there are plenty of opportunities 
left over for him. 

While there are many diflferent kinds 
of securities, w^hich vary in innumerable 
details in regard to legal rights of the 
holder and the exact character of the 



18 INVESTING FOR PROFIT. 

obligation, all may be included under 
three general heads: 

(1) Promises to pay, such as bonds, 
mortgages, notes, or loans on collateral. 
All of this class of securities entitle the 
holder to a specified amount of cash at 
a certain fixed future date, with interest 
at a predetermined rate, payable at regu- 
lar intervals throughout the term of the 
security. 

(2) Equities y representing a fractional 
part of the ownership of the company. 
The English term for these, shares, ex- 
presses their standing accurately. In 
America such securities are commonly 
called stocks. 

(3) Convertible securities, which may 
be changed from one of the above forms 
to the other under certain conditions 
which are specified in the face of the 
security. 

It is to be noticed that the character 
of a security is not always fairly in- 
dicated by its name. Income bonds, for 
example, are entitled to interest only 
when earned. If the income of the com- 
pany is sufficient to pay the interest on 
such bonds, it is paid ; but if the interest 
cannot be paid, this does not necessarily 
throw the company into the hands of a 



UNDERLYING PRINCIPLES. 19 

receiver, as would be the case if the in- 
terest on any other bonds were defaulted. 

Likewise the debenture bond is prac- 
tically nothing but a note, as it carries 
no lien on any specified property of the 
company, but is merely a general obliga- 
tion. When such a bond runs for a short 
term only, it is called a note in the or- 
dinary parlance of the Street. 

In the case of a guaranteed stock, it 
is necessary to ascertain just what the 
guarantee covers ; but in most cases such 
a stock is equivalent in safety to a de- 
benture bond except that it has no date 
of maturity. 

Equipment bonds deserve special no- 
tice, because they are really stronger 
than their name indicates. The security 
behind them consists of specified railroad 
equipment, as locomotives, cars, etc. 
The company might go into the hands of 
a receiver without affecting the security 
of these bonds, as that depends solely 
upon the equipment. A certain fraction 
of such an issue of bonds is retired each 
year, while the railroad usually obligates 
itself to keep the equipment in good re- 
pair and to replace such as may be worn 
out or damaged within the term of the 
bonds. Hence the amount of bonds out- 



20 INVESTING FOR PROFIT. 

standing keeps decreasing in proportion 
to the security behind them. 

Since the investor for profit desires to 
select securities that will increase in 
value, he will be chiefly interested in 
stocks and in bonds or notes which are 
selling below par. It is rare that he will 
wish to purchase bonds above par, be- 
cause the possibilities of higher prices for 
such securities are very limited. 

Equipments or any kind of serial bonds 
selling below par are especially attractive 
because the bonds to be retired each 
year are usually drawn by lot, so that 
each holder has a chance of getting par 
for his bonds whenever any are retired. 

The investor for profit must select 
securities which have a ready market. 
When he sees a good profit in his invest- 
ment, he wishes to be able to take it with- 
out sacrificing two or three points be- 
cause of difficulty of finding a buyer at 
the moment. 



II — Distribution of Investments 
for Profit 

ONE of the standard warnings com« 
monly given to the investor is 
that he should never ''put all his 
eggs in one basket/' On the other hand, 
Andrew Carnegie, who may be supposed 
to know a thing or two about investment, 
has revised this adage to read, 'Tut all 
your eggs in one basket and then watch 
the basket/' 

Mr. Carnegie has the very great ad- 
vantage of having made a phenomenal 
success of his method, but it is to be ob- 
served that he did so by watching the 
basket very closely indeed. He did not 
set the basket on a wall and say, "That 
looks pretty safe — I'll just step over in 
the back lot and pick a few strawberries." 

None of that for canny Andrew. He 
hung onto his basket with both hands. 
Not even a circus parade could distract 
his attention from that precious basket. 

The ordinary investor does not have 
the opportunity of watching the basket 



22 INVESTING FOR PROFIT. 

as carefully as it needs to be watched if all 
the eggs are to be put in it. An example 
of this occurred some years ago when a 
large part of the funds of the Johns Hop- 
kins University was invested in Balti- 
more & Ohio stock. Undoubtedly the 
trustees of the university thought they 
knew the situation of that railroad and 
that the investment was entirely safe. 
Yet Baltimore & Ohio went into the 
hands of a receiver and the work of the 
University was for a time seriously 
crippled. Fortunately the embarrass- 
ment of the company was only temporary 
and after reorganization it soon regained 
its former standing. 

As a general rule, therefore, it is de- 
cidedly better for the investor for profit 
to distribute his holdings among a num- 
ber of different securities. This dis- 
tribution will ordinarily come about in 
an entirely natural way, as the investor 
sees first one opportunity and then an- 
other of which he wishes to take advan- 
tage. When a certain amount of his capi- 
tal becomes available for reinvestment, 
he begins to look for a suitable security 
and it will usually not be long before 
something turns up suited to his purpose. 

The average man will not care to in- 



DISTRIBUTING INVESTMENTS. 23 

vest all his surplus funds for profit; he 
will wish to hold part of them as a sort 
of reserve by investing that part for 
safety only, without consideration of any 
possible profit above ordinary interest 
rates. 

An excellent plan is to divide your 
capital into two equal parts, a ''reserve 
fund" and a ''profit fund." The reserve 
fund is permanently placed with a view 
to safety of both principal and income. 
The investor does not expect to en- 
croach upon this reserve fund unless in 
case of unexpected disaster, illness, or 
something of the sort. 

In placing this reserve fund, interest 
returns will receive but very little con- 
sideration. The investor will expect to 
get only the current rate of interest 
available in cases where the element of 
risk is so far as possible eliminated. At 
present that rate would be four to five 
per cent. 

Standard bonds and mortgages aflford 
a natural outlet for the investment of 
such a reserve. For those not wishing 
to assume the responsibility of arrang- 
ing and managing an ordinary real es- 
tate mortgage, guaranteed mortgages 
are easily available. Any good bond 



24 INVESTING FOR PROFIT. 

house will recommend a suitable list of 
conservative bonds. For small sums, 
the savings banks and good local build- 
ing and loan associations are often the 
most convenient. 

With one-half of your capital thus se- 
curely provided for, you are then free to 
invest the other half so as to secure, if 
possible, a profit in addition to ordinary 
interest. As such profits accumulate 
you will transfer half of them to your 
reserve fund, so as to keep the propor- 
tion between your two divisions about 
equal. 

You are not warranted in taking any 
more risk on profits than on your orig- 
inal capital. It seems to be a common 
failing to risk profits in some highly 
speculative venture where the investor 
would not have thought of placing his 
original capital. There is no logic in 
this. All money is alike, no matter how 
you come by it. 

The next question is, how shall the in- 
vestor distribute that part of his fund 
which he set aside to invest for profit? 
Shall all this be put into stocks, or some 
into bonds? Shall he divide it between 
preferred and common stocks, or be- 



DISTRIBUTING INVESTMENTS. 25 

tween railroads and industrials, or in 
some other way? 

It is of interest to see how some of the 
men who have accumulated great wealth 
through successful investment have di- 
vided their capital. An instance of 
special value is found in the investments 
of the late Marshall Field of Chicago. 
He was one of the wealthiest merchants 
in the country and was well known for 
his safe and conservative methods of do- 
ing business and of handling capital. 
He died suddenly, leaving his invest- 
ments just as he had arranged them in 
the expectation of continued activity. 
A careful study of his estate was made 
by E. S. Meade, of the University of 
Pennsylvania, and is on record. 

Mr. Field's investments totaled over 
$43,000,000 and were as shown in the 
table herewith : 

Marshall Field's Investments. 

Money $4,301,378 

Open accounts 9,280,084 

Syndicate subscriptions 1,616,450 

Notes : 
High grade commercial 

paper $1,500,000 

Miscellaneous notes... 818,269—2,318,269 



26 INVESTING FOR PROFIT. 

Bonds : 
Gov., State and munici- 
pal $472,500 

Railroad 3,888,000 

Public Service 1,502,000 

Industrials 928,000— 6,790,500 

Stocks : 

Marshall Field & Co. . .$3,400,000 

Industrials 3,291,950 

Railroads 8,336,200 

Public service corpora- 
tions 1,431,650 

Banks and trust Cos... . 809,510 
Miscellaneous 891,000—18,160,310 

Grand total $43,069,524 

The open accounts resulted from his 
business connections, being almost en- 
tirely composed of a debt of Marshall 
Field & Co. and of money advanced to 
the Field Museum. The syndicate sub- 
scriptions were the leavings of various 
underwritings, and have no special in- 
terest for the investor. 

The investments in bonds were all of a 
highly conservative character. It will be 
noticed that only a small amount of in- 
dustrial bonds were included, and the 
quantity of municipal bonds was still 
smaller. The first were evidently 
avoided because of undesired risks, and 
the second on account of the small yield. 



DISTRIBUTING INVESTMENTS. 27 

The investment in Marshall Field & 
Co. was of course of a special character 
and was undoubtedly profitable. The 
other industrial stocks were all those of 
prosperous companies and were prac- 
tically all dividend payers, with the ex- 
ception of $1,494,000, which was equally 
divided between the preferred and com- 
mon stocks of certain of the newer in- 
dustrials. These were evidently the 
leavings of syndicate subscriptions, and 
it is probable that the common stocks 
cost Mr. Field but little. Some of these 
companies have since become very pros- 
perous, but others, such as American 
Can, Corn Products and Railway Steel 
Spring, have yet to prove their perma- 
nent dividend-paying capacity. 

The investments in railroad stocks 
were divided between the preferred and 
common stocks of eighteen of the prin- 
cipal railroads of the United States. 
Nearly all were dividend payers. 

His public service corporation hold- 
ings were mostly of Chicago Edison and 
of the Chicago Elevated Railways. It 
is highly probable that these were se- 
cured by participation in the original 
underwritings. 

Holdings of bank and trust company 



28 INVESTING FOR PROFIT. 

stocks were relatively small but highly 
profitable. Probably many of them were 
acquired years before, and under more 
favorable conditions than such purchases 
could now be made. 

If we eliminate, so far as possible, Mr. 
Field's direct business and personal re- 
lations and his participations in under- 
writings, we find about half his fortune 
invested in commercial paper and in rail- 
road and industrial stocks and bonds, as 
follows : 

Commercial paper $2,318,000 12% 

Railroad bonds 3,888,000 21% 

Railroad stocks 8,336,000 44% 

Industrial bonds 928,000 5% 

Industrial stocks 3,291,000 18% 

Total $18,761,000 100% 

But a part of the industrial common 
stocks were doubtless acquired at merely 
nominal prices. 

Of course, no profit above interest was 
expected on the commercial paper and, 
in view of the character of the bonds in- 
cluded, this statement was evidently true 
of nearly all of the bonds also. Bonds 
can be selected which contain a possibil- 
ity or probability of profit in addition to 
interest, but hardly any bonds of this 



DISTRIBUTING INVESTMENTS. 29 

character were found in the Field Estate. 

On the other hand, it is highly prob- 
able that Mr. Field hoped for a natural 
increase in value in addition to interest 
on nearly all of the stocks which he 
owned. The growth of the country 
would tend to bring this on the railroad 
stocks, and the industrials were of a 
character to indicate this expectation on 
his part. 

We may say roughly, then, that about 
38 per cent, of the above investment fund 
was placed with a view to interest return 
only, while the remaining 62 per cent, 
contemplated also the probability of an 
additional profit. Such a distribution of 
investments was conservative for a man 
of Mr. Field's wealth. Undoubtedly 
most millionaire capitalists place a larger 
proportion of their money in more specu- 
lative channels. Perhaps they are in- 
duced to do this by the feeling that even 
if the whole of any investment should be 
lost they will still have plenty left. 

For the small investor the conservative 
course is the only safe one, and he could 
scarcely go wrong by imitating the gen- 
eral plan followed by Chicago's most 
successful merchant. 

In considering this question of dis- 



30 INVESTING FOR PROFIT. 

tribution of investments for profit, it may 
be asked whether there are certain lines 
of business which should be favored and 
certain others which may well be avoided. 
Are the opportunities better in some 
kinds of business than in others ? 

There is room for a great deal of 
shrewdness and of judgment in the in- 
terpretation of public tendencies, wants 
and tastes. Bell Telephone is the com- 
monly mentioned example of a stock 
which could have been bought for a song 
by the investor who was far-sighted 
enough to see the possibilities of the in- 
vention. The telephone was at first re- 
garded as merely a curious toy. The man 
who then foresaw its general business 
use would have been esteemed a wild and 
visionary enthusiast. 

Doubtless never a year passes by with- 
out the appearance of extraordinary op- 
portunities for the investor who can 
combine sound judgment with an active 
imagination; but those having this com- 
bination of talents are very few, and most 
of the so-called investments whose pro- 
moters appeal to the imagination result 
in disaster to the holders of the securities. 

As a general thing it is best to stick 
to established companies and avoid pro- 



DISTRIBUTING INVESTMENTS. 31 

motions. It is the rule rather than the 
exception that a new business enterprise 
has to go through receivership before 
getting on a permanently sound basis. "^ 
"Getting in on the ground floor'' is apt 
to prove a gamble. 

The ordinary investor for profit should 
either avoid mining enterprises entirely 
or put into mining stocks only a small 
fraction of his capital. This is because 
there is always doubt as to the future of 
a mine. Its assets are hidden away in 
the earth where they can only be guessed 
at. 

An exception should perhaps be made 
of the porphyry copper companies, whose 
ore lies so close to the surface of the 
ground that it can be estimated with con- 
siderable precision. Coal mining also is 
on a diflferent basis from the precious 
metals, as some of the big companies 
have such extensive holdings of coal 
lands that supplies are secure for many 
years ahead. 

Transportation stocks are especially to^ 
be recommended to the investor for 
profit, because it is usually not very diffi- 
cult to form some idea of the probable 
growth of the territory in which they are 
located. A new country, with great 



32 INVESTING FOR PROFIT. 

natural resources, is bound to develop as 
population grows, and for that reason the 
securities of its best transportation com- 
panies will have good prospects. On the 
other hand, in the older sections the 
greatest growth will be in industrial en- 
terprises, as transportation has already 
been well provided for. 

Among industrial companies, the 
stocks of those whose products enter 
into wide and general consumption are 
to be preferred to those manufacturing 
articles for an exclusive trade or for a 
few large consumers, as the latter will be 
more subject to the caprices of fashion, 
to interference by new inventions and to 
the ups and downs of business activity. 

Public service corporations, such as 
street railways, electric companies, gas 
and water companies, etc., are, like trans- 
portation companies, subject to the 
growth of the communities in which 
they are located. In the past they have 
sometimes suflfered from unexpected 
competition, which had to be either met 
or bought off. That era is undoubtedly 
past for good and municipal control is 
now the chief danger to profits. As a 
rule, however, it may be assumed that 
such control will be reasonably exercised. 



Ill— When Should Bonds Be 
Bought for Protit? 

WHILE either bonds or stocks may 
be bought for profit as well 
as for interest or dividends, 
the opportunities for this form of in- 
vestment are naturally fewer in bonds 
than in stocks. Under ordinary circum- 
stances the stock of a corporation bears 
the burden of risk, and as a compensa- 
tion it also has all the chances of in- 
creased profits. 

Interest on the bonds must be paid as 
long as the corporation is solvent, but is 
fixed at a definite rate for the entire term 
of the bond. Dividends on the stock 
may be discontinued whenever necessary 
or desirable, but they may likewise be 
increased to any desired rate. 

Such a legal division of risks and in- 
come naturally limits the possibilities of 
profit on the bonds, since they never can 
participate in the prosperity of the com- 
pany beyond their fixed rate of interest. 

An effort to straddle the situation is 



34 INVESTING FOR PROFIT. 

often made by issuing convertible bonds, 
which bear a fixed rate of interest but 
may be turned into stock at a specified 
price. Such bonds are especially desir- 
able from the point of view of the in- 
vestor for profit, because his interest and 
principal are secure, while at the same 
time the price of his bonds will follow 
the stock in any advance above the con- 
version limit; but this very desirability 
is usually discounted in the price, so that 
it may be difficult to buy convertible 
bonds low enough to suit. Such issues 
are always worthy of careful watching, 
however. 

On the other hand, the investor for 
profit will often prefer bonds to stocks, 
because his principal is assured at ma- 
turity — provided, of course, the company 
remains solvent. If his bonds were well 
selected in the first place, he need not be 
disturbed by any decline in price. The 
worst that could happen to him under 
such circumstances would be that he 
might have to hold his bonds, receiving 
the interest thereon, until maturity or 
until improved financial conditions 
brought the price up again. This fact 
might contribute to the investor's peace 
of mind in times of unexpected trouble — 



BUYING BONDS. 35 

a point always worthy of consideration. 

Moreover, there is usually a time in the 
development of any business enterprise 
when the bonds afford the investor for 
profit a better opportunity than either 
preferred or common stock — better be- 
cause safer and because including assured 
interest as well as possibilities of profit. 

The investor will often ask, ^'Should I 
confine myself entirely to listed bonds or 
should I consider also especially at- 
tractive issues of unlisted bonds?" 

The answer must be that he should 
confine himself to bonds having a fairly 
active and satisfactory market, whether 
listed or unlisted. The mere fact of list- 
ing is of little value, except as guarantee- 
ing the legality of the bonds, and in near- 
ly all cases this can be easily ascertained 
in regard to any unlisted bond also. 
Otherwise, an inactive listed bond has no 
advantage over an inactive unlisted bond. 
As a rule, listed bonds are likely to have 
a better market than unlisted, other 
things being equal ; but the question of a 
good market is the one to be considered, 
regardless of listing. 

Large and well-known corporations, 
whose business and accounts receive the 
fullest publicity, are especially desirable 



36 INVESTING FOR PROFIT. 

in investing for profit, and their bonds 
will usually be listed and will naturally 
be found to have a satisfactory market. 
A bond on which the bid and offered 
quotations are more than one point apart 
will generally be undesirable for this 
purpose. 

In buying any bond, the first subject 
to be considered is security. In investi- 
gating this, the situation of the company, 
as a whole, must be gone over. The per- 
sonnel of the management, the affiliations 
of the corporation with other companies, 
property owned, total bonded indebted- 
ness, capitalization and its relation to in- 
come, the physical condition of the prop- 
erty, are all to be looked into carefully. 
This information may be easily obtained 
from various monthly and yearly man- 
uals. 

The most important consideration is 
the ''margin of safety,'' or the excess of 
earnings applicable on the bond over the 
interest requirements for that bond. 
Earnings are more important than assets, 
because the assets behind a bond gen- 
erally get the greater part of their value 
from their connection with the company 
as a going concern. 

The next question is the rank of the 



BUYING BONDS. 37 

bond, or its priority of claim as com- 
pared with other issues by the same com- 
pany. The general principles in regard 
to the relative positions of various bond 
issues are briefly stated as follows by 
Chamberlain in 'The Principles of Bond i 
Investment" : ^ 

'The secured obligations of a corpora- 
tion are superior to the debenture ; lien 
security is surer than guaranty; lien on 
realty is stronger than lien on personal- 
ty; realty that is merchantable, or that 
has its own independent earning, makes a 
better lien than realty that cannot read- 
ily be sold or that has earnings depend- 
ent upon the cohesion of the entire prop- 
erty. A first mortgage has a better claim 
than a second ; a second than a third ; 
primary liens anticipate secondary liens, 
and secondary liens anticipate junior 
liens." 

In the considerations of earnings ap- 
plicable on a bond or other security to 
be purchased, the investor for profit will 
naturally pay more attention to probable 
future earnings and may often be satis-?' j 
fied with a smaller margin of safety in 
current income as compared with current 
interest requirements, than would the 
investor for income only. 



38 INVESTING FOR PROFIT. 

The investor for profit is seeking to 
identify his interests with a growing 
property. A bond issue by such a com- 
pany showing only a moderate excess of 
earnings over interest will prove actually 
safer, if the investor's ideas in regard to 
the future of the company are correct, 
than the bond of another company upon 
which much larger current earnings are 
applicable, but which runs a risk of a 
falling off in earnings during subsequent 
years. 

At the same time the bond of the 
young and growing company will sell at 
a lower price than that of the company 
which has reached its fullest develop- 
ment, as the latter will be considered a 
"seasoned'' investment and will be more 
actively sought by investors for income 
only, who constitute far the largest class. 
The investor for profit credits himself 
with ordinary business judgment in esti- 
mating the prospects of the corporation 
whose securities he buys. He studies 
probable future earnings just as carefully 
as he does present earnings. 

This subject will be more fully dis- 
cussed later in connection with invest- 
ments in stocks. The particular ques- 
tion I am now leading up to is, Under 



BUYING BONDS. 39 

what conditions are bonds more desirable 
than stocks as investments for profit? 

Long term bonds are, as a matter of 
plain necessity, the issues to show wide 
fluctuations. If a 5 per cent, bond is to 
be paid ofif next year, a decline of only 
two points below par would place it on a 
7 per cent, basis, while an advance of 
two points above par would reduce it to 
a 3 per cent, basis. Under such condi- 
tions only slight fluctuations are possible. 

The longer the term, the greater the 
fluctuation; but beyond fifty years the 
influence of the time of maturity upon the 
basis of yield becomes so slight as to be 
unimportant. A 60-year 5 per cent, 
bond on a 4^^ per cent, basis costs 110.34, 
and a 100-year bond, 110.98 — an addition 
of only .64 of a point for the 40 years 
additional term. 

If, however, a bond is bought at a dis- 
count below par, as will nearly always 
be the case in investing for profit, the 
shorter the tenn the better, if other con- 
ditions are satisfactory; for the approach 
of maturity wnll then work in favor of 
the investor. 

For example, if a satisfactory 5 per 
cent, bond having ten years to run can 
be bought at 90, the price will advance 



40 INVESTING FOR PROFIT. 

(other factors remaining the same) one 
point each year during ten years. Thus 
if the investor holds the bond throughout 
the entire period, he will get a shade 
over 5y2 per cent, interest on his invest- 
ment and an additional profit of ten 
points. In the meantime, if more favor- 
able conditions bring his bond to par be- 
fore the ten year period is up, he has the 
option of selling the bond and looking 
around for another equally good oppor- 
tunity. 

In figuring bond values the investor 
will naturally consult the bond tables, 
which show at a glance the actual yield 
at different rates of interest for all ma- 
turities. In the case of a stock, as it has 
no maturity, the yield is figured by sim- 
ply finding what per cent, the annual 
dividends are to the price paid. A 6 per 
cent, stock bought at 87 yields 600 di- 
vided by 87, or 6.9 per cent. It does not 
matter what the par value of the stock 
may be, as this does not afifect the yield 
on the investment. 

With the bond, the question of yield is 
complicated by the fact that the purchaser 
is to receive par at maturity, while he 
may have bought his bond above or be- 
low par. If he bought below par, he 



BUYING BONDS. 41 

makes a profit, so to speak, at maturity, 
which in the bond tables is distributed 
throughout the entire period between his 
purchase and date of maturity, thus rais- 
ing the yield on his investment. Like- 
wise, if he paid more than par, the pre- 
mium thus paid is distributed over the 
whole time, reducing the yield on his in- 
vestment.* 

One or two practical examples will 
show most clearly the circumstances in 
which the investor for profit would 
choose bonds instead of stocks. 

When the Norfolk & Western Railway 
was reorganized in 1896, a study of the 
map of the road and of the plan of reor- 
ganization showed great possibilities of 
earning power. Its lines tapped the 
rich soft coal and coke section in the 
mountains of western Virginia and the 
southern part of West Virginia, giving 
direct and easy transportation to tide- 
water at Norfolk, westward to Cincin- 
nati and Columbus, and northw^ard up 
the fertile Shenandoah Valley to eastern 
Pennsylvania. The road also formed 
one direct line for through traffic from 



*For a thorough discussion of the mathematics 
of bond values see Chamberlain's "Principles of Bond 
Investment," page 405 and following. 






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BUYING BONDS. 43 

the great Eastern cities to Chattanooga 
and beyond, and another from Virginia 
and North Carolina to Cincinnati and the 
West. 

At this time, of course, neither the pre- 
ferred nor the common stock was paying 
any dividends, but the interest on the 
first consolidated 4 per cent, bonds had 
every appearance of being secure. Nev- 
ertheless, owing to the recent reorganiza- 
tion of the company and to the general 
dullness of business at that time, these 
bonds sold as low as 675^ in 1897. 

Here was a suitable opportunity for 
the investor for profit who could take an 
unprejudiced view of the future of the 
company, as well as of the current out- 
look. The table herewith shows the de- 
velopment of the company as indicated 
by prices of the bonds and prices and 
dividends on the two classes of stock. 

In 1897, dividends on the preferred 
stock, though probable, could not be said 
to be assured. Hence it was a medium 
for the speculator rather than the in- 
vestor. But the bonds, bought at or be- 
low 75, yielded a safe Syz per cent, 
with good prospects of improvement. 

In 1900, the bonds reached par, at 
which price the opportunities for profit 





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BLT\1XG BONDS. 45 

had practically disappeared and the in- 
vestor for profit would naturally dispose 
of them. In the meantime, the preferred 
stock, 4 per cent, non-cumulative, had 
reached a permanent dividend basis. As 
it was not yet ''seasoned,'' it could have 
been bought as low as 67 in 1900, the 
year when the bonds would probably 
have been sold. In two years more the 
preferred stock sold at 98. The investor 
might naturally have considered 95 a 
suitable price on which to take profits on 
a 4 per cent, non-cumulative stock. 

By this time, 1902, the common stock 
had begun to benefit from the company's 
large earnings, being placed on a 3 per 
cent, basis in the middle of that year. 
In the panic of 1903, however, it sold at 
53^, and at 53>^ in 1904, giving the in- 
vestor ample opportunity to switch into 
that issue at a satisfactory price. Earn- 
ings on the common have increased 
steadily ever since, with the growth of 
the section served by the road and the 
constantly increasing demand for soft 
coal and coke. It is now on a 6 per cent. 
basis, and its high price, including Julv, 
1912, was 118^^. 

An investment of, sav, $750 in a bond 
at 75 in 1897, sold for $975 in 1900 and 



46 / INVESTING FOR PROFIT. 

Teinvested in preferred stock at 75, 
closed out again at 95 in 1902 and put 
into the common at, say, 60, in 1903, 
would now be worth over $2,300, in 
addition to having earned interest vary- 
ing from 5 per cent, to 6 per cent, 
throughout the entire period. And at no 
time did the investor hold any security 
of a lower grade than that ordinarily 
designated as a ''business man's invest- 
ment.'' 

Another interesting example may be 
found in the sinking fund 5's of the tj. S. 
Steel Corporation, as illustrated here- 
with in the second table. These bonds, 
placed on the market in 1903, sold as low 
as 65. The preferred stock was then 
paying regular dividends of 7 per cent., 
but its low price of 49% in that year 
showed plainly that investors regarded it 
doubtfully. It would not be selected by 
the investor for profit, but would be left 
to the speculator. 

There was no serious doubt at that 
time that the sinking fund 5's would be 
easily taken care of. If the investor for 
profit had bought them at 75 in 1903, he 
could have realized par for them in 1906. 
It may be assumed that he would do this, 
as par for a 5 per cent, industrial bond 



BUYING BONDS. 47 

does not leave much chance for further 
appreciation. 

By this time the preferred stock was 
on a sound basis, and in 1907 an oppor- 
tunity was afforded to buy it at as low as 
79y^. It touched 131 in 1909, but the 
investor would doubtless have taken his 
profit before that figure, which was evi- 
dently pretty high for a 7 per cent, in- 
dustrial stock. 

Whether these profits should have 
been reinvested in Steel common would 
be open to debate. That issue is almost 
too highly speculative for the purposes 
of the genuine investor for profit, yet 
many conservative business men have 
bought and are now holding it. Its par- 
tial dependence upon the tariff is, of 
course, an unfavorable feature. 

These examples, which might be mul- 
tiplied almost indefinitely, serve to show 
the period in a company's development 
when its bonds may be bought for profit 
as well as interest. In a word, the bonds 
are to be purchased at the time when the 
preferred stock has not yet reached an 
assured position in the matter of regular 
dividends. 

In the growth of the company, the 
bonds are the first to be brought up to 



48 INVESTING FOR PROFIT. 

the point where they are nearly inde- 
pendent of earnings and their price is 
chiefly determined by the condition of 
the money market; next the preferred 
stock comes up to a similar position ; and 
finally the common stock arrives at the 
same plane, as has long been the case 
with such stocks as Chicago & North- 
western, Delaware & Hudson, Lacka- 
wanna, etc. 



IV — The Selection of Growing 
Railroad Stocks 

RAILROAD stocks afford the in- 
vestor for profit what should 
perhaps be called his best oppor- 
tunity, when all the various factors in 
the situation are taken into consideration. 
In the first place, the business of a 
railroad is, of necessity, publicly per- 
formed. Its tracks and equipment are 
visible to everybody, its location is 
known, the business along its lines can 
be estimated and often may be computed 
from current statistics, and evidences of 
good or bad management are plain 
enough to any experienced railroad man, 
and in many cases to the inexperienced 
likewise. 

Again, the system of railroad account- 
ing, as enforced by the Interstate Com- 
merce Commission, is now uniform and 
definite, so that only a small knowledge 
of bookkeeping is necessary in order to 
judge of the prosperity or adversity of 
a road. An industrial company may put 



so INVESTING FOR PROFIT. 

its stockholders off with a brief state- 
ment that the gross business for the year 
was so much and the net profit so much, 
without any further explanations or de- 
tails; but the railroad company cannot 
do this. It is legally required to set 
forth an intelligible statement of its earn- 
ings and condition in a certain definite 
and prescribed form. 

Still another advantage of railroad se- 
curities, as compared with others, is that 
the business of the company is so largely 
dependent upon growth of population 
and development of general industry. 
Even a poorly managed, over-capitalized 
road will make money in a rapidly grow- 
ing and prosperous section, while the 
best and most conservative handling may 
not avert a deficit in a region where busi- 
ness is stationary or declining. 

This matter of population will be the 
first to be considered by the investor for 
profit in selecting railroad stock. It is 
quite true that a good road may, under 
certain conditions, make rapid progress 
and build up its income in spite of only 
a small growth in population along its 
lines, but the investor for profit wishes to 
get the advantage of a combination of 
favorable conditions. He can select any 



GROWING RAILROAD STOCKS. 51 

road in the country for his investment. 
There is no reason why he should not 
select one where the condition of growth 
of population is in his favor. 

For example, the census figures show 
that the State of New Hampshire gained 
only 4 per cent, and Maine 7 per cent, in 
the 10 years from 1900 to 1910; while 
Oregon increased 62 per cent., Califor- 
nia 60 per cent., Arizona 68 per cent, and 
Texas 28 per cent. Other things being 
equal, therefore, the investor for profit 
would choose a road running through 
the latter states, as the Southern Pacific, 
instead of one operating in New Hamp- 
shire and Maine — the Boston & Maine. 
A railroad cannot do a big business un- 
less the business is there to be done. 

The next important point to be investi- 
gated is whether the business of a road 
is diversified, embracing a great number 
of diflFerent industries and products, or 
dependent to a large extent upon a single 
industry. 

The roads report the character of their 
traffic under six heads, as prescribed by 
the Interstate Commerce Commission : 

(1) Products of agriculture, such as 
grain, flour, cotton, hay, etc. 



52 INVESTING FOR PROFIT. 

(2) Products of animals — livestock, 
dressed meats, wool, etc. 

(3) Products of mines — coal, coke, 
ore, etc. 

(4) Products of forests, that is, lum- 
ber and allied products. 

(5) Manufactures of all kinds. 

(6) Merchandise and miscellaneous. 
The ordinarily well informed man 

generally knows enough about the char- 
acter of the section through which a 
road runs to form an idea of the nature 
of its traffic. With the growth of large 
systems, most of the roads handle a 
widely diversified business, so that this 
subject is not as important as when 
there were numerous small disconnected 
lines, each one serving a restricted ter- 
ritory. Even the ''grangers,'' which for- 
merly handled a very large percentage of 
agricultural products, now carry a diver- 
sified business as a result of the increas- 
ing prosperity of the farmers and the 
growth of manufacturing in the sections 
served. 

If a road is largely dependent upon 
one industry — as for example, Lehigh 
Valley, nearly two-thirds of whose ton- 
nage is anthracite coal — its prosperity 
will vary with the activity of that indus- 



GROWING RAILROAD STOCKS. 53 

try. This may be a favorable or an un- 
favorable feature, according to circum- 
stances. In the 80's, when the price of 
coal fluctuated violently and the business 
was generally disorganized, the hard coal 
roads were at a disadvantage; but in re- 
cent years since conditions of partial 
monopoly have been established in the 
anthracite industry, the roads have flour- 
ished because they participated in the 
profits resulting from higher prices for 
coal. 

The next question is, Is the road being 
managed strictly for the benefit of stock-, . 
holders or is it in the hands of specu-^/ 
lative interests? Now that the railroads ' 
of the country have been gathered into a 
few large groups under the control of 
great banking interests, most investors 
know the general character of the man- 
agement of the leading lines, or if they 
do not, can easily find out. 

The days of deliberate wrecking of a 
railroad, as Erie was wrecked by Gould 
and Fisk, are undoubtedly over for good 
and all ; but there is a great diflference 
between capable, efficient, economical 
management, and careless, wasteful 
methods, or management with one eye on 
the stock market. Strong banking con- 



54 INVESTING FOR PROFIT. 

nections are practically a necessity to a 
railroad under present conditions. Its 
income is also materially affected by its 
relations with connecting and with par- 
allel lines. "Community of interest'' 
often puts a relatively weak road in a 
position to make money, when it could 
hardly keep its head above water under 
strictly competitive conditions. 

The fact that a road is controlled by 
Morgan interests, or financed by Kuhn- 
Loeb, or is under Hill management, is 
not, taken alone, a guaranty of success; 
but other things being equal, the identi- 
fication of a road with interests having 
abundant resources and wide influence is 
to be reckoned as an important asset. 

When we come to the question of cap- 
italization, it is little use to figure on the 
capital issues per mile of road. The 
question to be considered is. Are the 
earnings large enough to pay interest on 
the entire capital and leave a reasonable 
balance? Where a heavy business must 
be handled, a large capitalization per 
mile is necessary ; while in a sparsely set- 
tled agricultural district, the capital 
needed may be very much smaller. 

It is clear that the amount saved from 
earnings will depend to a considerable 



GROWING RAILROAD STOCKS. 55 

extent on expenditures for maintenance 
of way and of equipment. A road can' 
make its earnings show a fictitious in- 
crease for a year or two by cutting down 
its normal expenditures for new rails, 
new locomotives and cars, grading, re- 
pairs, etc. Equally, it can include under 
the heading of maintenance, expenses 
which have actually been made for per- 
manent improvements, thus causing its 
earnings to appear much smaller than 
they would be naturally. 

No definite figure can be set for proper 
maintenance. The necessary expenses 
for this item vary so greatly for different 
roads and under varying conditions that 
the average investor is obliged to depend 
on the opinions of experts in forming his 
judgment on this subject. When the an- 
nual reports of the principal companies 
appear, the question of maintenance 
comes in for careful study by statisti- 
cians and financial experts, and the dis- 
cussions of the subject in leading finan- 
cial publications generally give the 
reader a fair i'lea of the situation. Of 
course, an actUc 1 physical examination of 
the line by a cc .npetent railroad engineer 
is the best po sible information. It is 
only occasiona ly that this is available, 



56 INVESTING FOR PROFIT. 

but nevertheless a knowledge of the real 
condition of the various roads gradually 
percolates through financial circles. 

Net income, or the amount left over 
from total receipts, after all expenses of 
operation and maintenance have been de- 
ducted, is of course the main reliance in 
judging the value of the stock. Net in- 
come should always be figured on a per 
mile basis in comparing results of one 
year with another, or of one road with 
another. An increase of 500 miles 
within any year in the length of lines 
operated, would naturally increase net 
income for the system as a whole, but 
this might not represent any improve- 
ment in earnings per mile. 
I After arriving at net income, the next 
/ thing is to deduct the fixed charges, or 
! interest on bonds, notes, guaranteed 
1 stock, etc. The amount of this item is 
always given in the annual report. An 
issue of new bonds or notes during the 
year will increase the fixed charges in the 
next annual report, and to that extent 
weakens the position of the stock, which 
cannot be credited with any earnings un- 
til after all fixed charges are met. 

The sum remaining after fixed charges 
are paid is called "surplus'' and the per 



GROWING RAILROAD STOCKS. 57 

cent, of this surplus to the fixed charges 
is called "margin of safety/' If the fixed 
charges are $20,000 a mile and the sur- 
plus above fixed charges is $10,000, the 
margin of safety is 50 per cent. 

Perhaps it is the use of terms like 
''margin of safety,'' which sound tech- 
nical, although the idea they express is 
exceedingly simple, that leads the aver- 
age investor to take all his information 
about conditions and earnings of a rail- 
road at second hand from the news- 
papers or from circulars of brokerage 
houses. 

In point of fact, it is nearly as easy to 
figure the earnings on a railroad stock as 
it is to reckon up your personal cash 
account. You earn so much in a year, 
you spend so much, and whatever is left 
over represents your savings. Just so a 
railroad has certain gross earnings, cer- 
tain expenses, a certain amount of inter- 
est to pay on its debts, and whatever is 
left represents surplus, which may be dis- 
tributed as dividends on the stock if de- 
sired by the management. 

All these figures are very easily acces- 
sible. The Investor s Pocket Manual 
(monthly), Moody's Manual, Poors 
Railroad Manual, Moody's Analyses of 



58 INVESTING FOR PROFIT. 

Railroad Investments, The Manual of 
Statistics, and other similar publications 
tabulate railroad earnings and expenses 
so plainly that any one can understand 
them. 

The simplest and clearest way of get- 
ting at this subject will be to take some 
railroad as an example and show just 
how the investor for profit would have 
proceeded and why he would have done 
as he did. We will take a road which 
has not had an uninterrupted growth, 
but which has passed through a period 
of bad management, resulting in the 
temporary suspension of dividends. We 
shall thus be enabled to see just what 
advance warning the investor had which 
would have permitted him to sell out his 
stock before the dividends were sus- 
pended. 

We will select Southern Railway. 
Taking up first the question of location, 
we find that this road gridirons the 
South Atlantic and Gulf states. The last 
census shows that the value of farm 
lands and buildings in the 16 Southern 
states increased from $4,077,000,000 in 
1900 to $8,964,000,000 in 1910, or about 
125 per cent. The value of farm build- 
ings alone doubled during the decade — a 







a\Ch 






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60 INVESTING FOR PROFIT. 

strong evidence of increasing wealth; 
and the value of twelve leading crops 
also doubled. Value of manufactured 
products increased 120 per cent, and total 
wages in manufacturing industries 157 
per cent. Population gained over 20 per 
cent. 

There is no doubt, therefore, that the 
Southern Railway is located in a rapidly 
growing section. In regard to the char- 
acter of its business, the breadth of ter- 
ritory covered assures a diversified traf- 
fic. The rapid growth of manufactures 
is an especially favorable indication in 
this direction. 

The road was incorporated in 1894 
under Morgan leadership and that house 
has continued to be the banking repre- 
sentative of the company. 

Now, coming to the question of in- 
come, the table herewith shows annual 
earnings, per cent, applicable on the pre- 
ferred stock, dividends paid, and range 
of prices from 1897 to 1912. Gross 
and net earnings and surplus are shown 
on a per mile basis. 

The only figures that may not be fully 
understood by all are those under ''per 
cent, operating expenses." This means 
the per cent, of the total operating ex- 



GROWING RAILROAD STOCKS. 61 

penses of the road to its total gross earn- 
ings. These figures are commonly re- 
duced to a per cent, so as to show by 
comparison whether a road is being 
economically operated — whether a larger 
or smaller part of its gross earnings is 
being eaten up in the cost of handling 
the traffic. 

The attention of the investor for profit 
would naturally begin to be attracted to 
this road when in 1899 it earned 3.5 per 
cent, on its preferred stock against 1.7 
per cent, the preceding year, and de- 
clared 2 per cent, dividends. Looking 
into the matter further, he would see that 
both gross and net earnings were rising 
year by year, and that the surplus had 
increased from $93 per mile in 1897 to 
$388 per mile in 1899. He would also 
notice that the per cent, of operating 
expenses to gross earnings had fallen 
from 69.35 in 1897 to 68.46 in 1899. 

All this looked very favorable, and as 
the road was in a growing territory and 
backed by strong interests, the investor 
w^ould be warranted in buying some of 
the preferred stock, which even with a 
dividend of only 2 per cent, would re- 
turn him a satisfactory income on the 
investment, while prospects of an in- 



62 INVESTING FOR PROFIT. 

creased dividend seemed good. The 
price in 1899 ranged from 41 to 58. 

Year by year he would have the pleas- 
ure of seeing earnings and dividends in- 
crease and prices rise. Up to and includ- 
ing 1902, the only fault he could find 
would be that the road was paying out 
nearly all of its yearly surplus in the 
form of dividends, and was not building 
up a reserve against the possibility of 
dull times. 

In 1903, there was a falling off in net 
earnings and in surplus per mile; also 
the per cent, of operating expenses rose 
to 73.18, from a low point of 68.41 in 
1898. However, 1903 was a somewhat 
depressed year, when a railroad could 
not be expected to make the best possible 
showing, and the decline in net earnings 
was perhaps no more than would reason- 
ably be expected under the circum- 
stances. A better record would be prob- 
able as soon as business recovered its 
normal activity. 

This happened in 1905, and in that 
year there was also a slight decrease in 
the per cent, of operating expenses to 
gross. But in 1906, our investor re- 
ceived a jar. At that time, general busi- 
ness was booming. Every railroad ought 



GROWING RAILROAD STOCKS. 63 

to be able to make as good a showing as 
ever it could. Gross earnings for South- 
ern Railway jumped from $6,688 per 
mile in 190'5 to $7,274 in 1906— nearly 
double 1897. 

But net earnings showed only a trifling 
gain, surplus per mile declined, and the 
per cent, earned on the stock w^as only 
0.1 per cent, greater than the previous 
year. Something was checking the growth 
of net earnings. What was it? 

The key was found in the per cent, of 
operating expenses to gross, which had 
risen from 72.87 in 1905 to 74.15 in 1906. 
For some reason the road was not hand- 
ling its business economically. 

The reason was discovered quickly 
enough by the reader of financial publi- 
cations of that date. The Southern's 
train service in 1906 was a joke through- 
out the states it served. Passenger 
trains were late, accidents were frequent, 
and freight moved uncertainly. Yards 
were clogged with waiting cars, and the 
inadequate equipment was constantly 
breaking down. The company had paid 
out in dividends money which should 
have been expended for improvements ; 
consequently, when a big volume of busi- 



64 INVESTING FOR PROFIT. 

ness came^ it could not be handled satis- 
factorily or economically. 

In the meantime, April 18, 1906, the 
stockholders had authorized a ''develop- 
ment and general mortgage" of $200,- 
000,000 in gold bonds, of which $15,000,- 
000 was to be issued immediately for the 
''refunding of payments for equipment 
heretofore made and charged to capital,'' 
for advances to subordinate companies. 
and for double tracking, revision of 
grades, etc. 

The issuance of these bonds showed 
the pinch the company was in. The 
price of the preferred stock for 1906 
ranged from 93 to 103, or high enough 
for a 5 per cent, non-cumulative stock 
even of a thoroughly prosperous com- 
pany. The investor would take warning. 
His company had stopped growing. 
Hence it was time for him to get his 
money out of it and to place his invest- 
ment where he might hope for a profit 
in addition to his interest. 

In fact, the investor might well have 
set his limit at par in the first place, on 
the principle that 100 was high enough 
for a stock of that character, in which 
case he would have got his figure in the 
previous year, 1905, when the high point 



GROWING RAILROAD STOCKS. 65 

touched was 102. In this instance, how- 
ever, I wish to show how a brief consid- 
eration of a few^ simple figures, available 
to everybody and readily understood, 
would enable the investor for profit to 
perceive the development of unsatisfac- 
tory tendencies in the earnings of the 
road. 

In 1907 came the panic, and dividends 
on Southern Railway preferred were dis- 
continued. This took the stock out of 
the class adapted to the investor for 
profit, as his cardinal principle is to get 
interest on his money first and then to 
add profits, if possible. 

In April, 1911, dividends were begun 
again, with all conditions afifecting this 
road apparently favorable. Earnings on 
the preferred had risen from 0.7 per cent, 
in 1908 to 9.6 per cent, in 1910, and 
when the 1911 report came out it showed 
11.1 per cent. The price range for 1911 
was 61 to 75, giving the investor a suit- 
able opportunity to repurchase at a much 
lower price than he sold, if the invest- 
ment was to his liking at that time. The 
high price for 1912, down to this writing, 
has been about 86, and dividends have 
been increased to 5 per cent. — the full 
amount that can be paid on this issue. 



V— When to Buy Standard Rails 

IN the preceding chapter, I endeavored 
to bring out the general principles 
by which growing railroad stocks 
may be selected without any special diffi- 
culty, even by the investor who has only 
such slight knowledge of railroad sta- 
tistics as can be readily obtained from 
the annual reports and from a cursory 
reading of a digest of current news per- 
haps once a month. 

But the investor for profit is not nec- 
essarily restricted solely to the most 
rapidly growing companies. Oppor- 
tunities will frequently appear when the 
stocks of standard, solid, well-conducted 
companies, whose business has been, and 
is likely to be, well maintained year 
after year, can be bought at prices 
w^hich will enable the purchaser to add 
profits to his interest in the course of 
a few years. 

The Pennsylvania Railroad, for ex- 
ample, has paid dividends regularly for 



68 INVESTING FOR PROFIT. 

over half a century. It would not natu- 
rally be selected as a very rapidly grow- 
ing company, as most of the territory 
through which it passes is already well 
developed. It will doubtless keep pace 
with the growth of population and busi- 
ness in the United States, but it could 
not possibly repeat the performance of 
Norfolk & Western as related in a pre- 
ceding chapter. 

Owing to the standard character of the 
"oad and the relative stability of its busi- 
ness, the price of its stock fluctuates less 
than that of almost any other American 
company. For the first nine months of 
the current year (1912), for example, 
the price of this stock moved over a 
range of less than four points, from 
\22y2 to 126^4 . Yet it sold from 99 in 
1896 up to 142 in 1899; down to 124 in 
1900; up to 170 in 1902; down to 111 in 
1903 ; up to 148 in 1905 ; down to 103 in 
1907; up to 151 in 1909; and down to 
118 in 1911. 

Here were plenty of opportunities for 
the investor to get a profit in addition to 
his interest, without the exercise of any 
extraordinary sagacity. Figuring out 
the yield on the investment at these 



STANDARD RAILS. 69 

various high and low prices, we get the 
following : 

Price. Divs. Yield. 

i ' s 

1896 99 5 5.1 

1899 142 5 3.5 

1900 124 6 4.8 

1902 170 6 3.5 

1903 Ill 6 5.4 

1905 148 6 4.1 

1907 103 7 6.8 

1909 151 6 4.0 

A brief examination of this result 
shows that during the easy money mar- 
kets and big bull speculation of 1899 to 
1902, the interest yield on an investment 
in Pennsylvania stock was 3.5 per cent, 
at the highest prices; in 1905 and 1909, 
when the supply of surplus funds for in- 
vestment was noticeably smaller, the 
yield at highest prices was practically 4 
per cent. ; and that the yield at lowest 
prices was about 5 per cent., with the 
exception of 1907. 

In the last mentioned year, the divi- 
dend rate had just been raised to 7 per 
cent. — a figure at which it was found in- 
advisable to maintain it. Also, the low 
price of 1907 was made in the midst of 
the sharpest money panic the country 
every experienced. These special con- 



70 INVESTING FOR PROFIT. 

ditions resulted in an abnormally low 
price in proportion to dividend returns. 
The investor who simply shut his eyes 
and bought when Pennsylvania was on a 
5 per cent, basis and sold when it reached 
a 4 per cent, basis, would have found two 
opportunities for adding a good profit to 
his interest, as follows : 

Bought at Sold at Profit 

1896 100 

1899 125 25 

1903 120 

1909 150 30 

His money would have been in use 
during nine years, three years on the first 
investment and six years on the second. 
It would have yielded him 5 per cent, 
throughout, plus a profit of 55 per cent, 
on his first investment at par, or an 
average interest of about 1 1 per cent, for 
the whole period. 

To get still better results, he would 
need to mix only a small amount of judg- 
ment with his rule. In 1900, in view of 
the abundance of capital, the easy rates 
for money and the general soundness of 
business conditions, the average business 
man would not expect Pennsylvania to 
sell as low as a 5 per cent, basis. He 
would be much more likely to set his 



STANDARD RAILS 71 

figure at 4^ per cent. Likewise in 1902 
he would probably hold for higher than 
a 4 per cent, basis. 

Again, in 1907 conditions were so 
threatening and the money market so dis- 
turbed all over the world that the fairly 
well informed investor would be almost 
sure to wait for a 5^ or 6 per cent, basis 
before purchasing, especially as Pennsyl- 
vania had at that time only just raised its 
dividend to 7 per cent. 

Another practical method would be to 
buy part of the stock desired when the 
price reached a 4^ per cent, basis, more 
at a 5 per cent, basis, and the last at 5^ 
per cent. ; then to realize profits half at 4 
per cent, basis and half at 3^ per cent. 
The past history of the stock, combined 
with an ordinary business man's knowl- 
edge of present conditions, would in any 
similar case enable the investor to lay out 
a common sense campaign. 

Again, it is to be noticed that while the 
great standard companies which do a 
well maintained business year after year, 
are not in the same position as those com- 
panies discussed in the last chapter, 
which must grow as a necessary result of 
their location in growing territory, these 
standard companies nevertheless have 



72 INVESTING FOR PROFIT. 

their growing periods, and these periods 
can often be distinguished by the watch- 
ful investor. 

To take an example, which will be 
likely to bring out the point more clearly 
than a more abstract discussion, we will 
examine into the history of the New 
York, New Haven & Hartford Railroad 
since 1897. 

I have selected this road because it is 
perhaps the least favorable for the in- 
vestor's purpose of any of the leading 
American railways. It is located in New 
England, the oldest section of the United 
States, where natural resources are less 
bountiful than in most sections and have 
also been pretty thoroughly developed in 
the past. It is a road which has had to 
meet water competition on one side and 
trolley competition on the other. In 
order to hold its own it has been obliged 
greatly to increase its capital issues for 
the purpose of buying up steamships and 
electrics, which when acquired have 
added but little to its income. Its New 
York terminals have also been a source 
of great expense. 

As a result of these various conditions. 
New Haven stock sold as low in 1911 as 
in 1907, and lower in every year from 



STANDARD RAILS. 7?> 

1907 down to date than in the depression 
of 1896-7. We may take it for granted, 
then, that if the investor for profit could 
distinguish the growing periods in the 
recent history of this stock, he could do 
equally well or better in the stocks of 
other roads which have made greater 
progress. 

In the accompanying table I have com- 
piled, for each year from 1897 to 1912, 
the earnings on this stock, dividend paid, 
per cent, of operating expenses to gross 
earnings, and range of price. These 
figures show the salient facts in the con- 
dition of the company year by year. All 
are clear to every reader, wuth the pos- 
sible exception of ''operating ratio" — the 
per cent, of expenses to gross earnings, 
which was explained in the last chapter. 

The novice, in calculating this per cent, 
on any stock, should be careful to dis- 
tinguish between ''net earnings'' and "net 
income.*' Operating expenses may be 
obtained by deducting net earnings from 
gross earnings; but net income usually 
includes other items besides earnings 
from operation, such as interest on se- 
curities owned, etc. 

Starting with 1897, we find the stock 
earning 8.2 per cent., and paying out 



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STANDARD RAILS. 75 

practically the entire earnings in divi- 
dends. This was perhaps warranted be- 
cause of the firmly established condition 
of the company and the stability of its 
business. The road was not at that time 
under the necessity of piling up a sur- 
plus for extensions and improvements, as 
would have been the case with a road in 
newer territory. The operating ratio 
was at a safe figure, 67.6 per cent. 

At the price of 160 the stock was re- 
turning 5 per cent, on the investment, 
which was as large a return as could be 
expected from a stock of such high stand- 
ing, and in view of the contracted state 
of general business in 1897, the investor 
might well conclude that if he bought the 
stock around that price, he would have 
ample opportunity to sell it higher when 
he found such action advisable. 

For three years he would have been 
gratified to see a steady advance in the 
price, accompanied by slightly larger 
earnings on his stock and no important 
change in the operating ratio. By the 
end of 1901, however, he would have ob- 
served that the operating ratio was 
creeping up, while the earnings on the 
stock had stopped increasing and re- 
mained stationary at 8.7 per cent. Early 



« 



ie INVESTING FOR PROFIT. 

in 1902 he would have found his stock at 
the extremely high figure of 255, at 
which price the yield would be only 3.1 
per cent. 

Bearing in mind that our investor is 
planning to hold his stock only during 
the period of growth; that the per cent, 
of earnings on the stock has now ceased 
growing; and that the operating ratio 
has been gradually rising for four years ; 
we may conclude that before the high 
price was reached, he would have been 
satisfied to take his profit and to look 
elsewhere for another investment. 

When the annual report for the fiscal 
year ending June, 1902, came out, he 
would congratulate himself on the sale, 
for the operating ratio for that year 
jumped to 71.9 per cent. 

In May, 1904, the price dropped back 
to 185, but the investor would not be 
willing to repurchase, for the operating 
ratio of the preceding year had been still 
higher at 7Z9 per cent., and earnings on 
the stock lower at 8.4 per cent. These 
figures showed very plainly that the com- 
pany was not yet down to an economical 
basis in the handling of its business. 

The 1907 report, however, showed a 
marked improvement. Not only had 



STANDARD RAILS. 11 

earnings risen to 12.2 per cent, for 1906 
and 9.2 per cent, for 1907, but the operat- 
ing ratio for the latter year was down to 
65.6 per cent., the lowest for over ten 
years. This appeared to demonstrate 
that the company had put itself in a posi- 
tion to handle the very heavy business of 
that year in a successful and economical 
manner. 

November, 1907, gave an opportunity 
to repurchase the stock at 127, and 128 
was touched early in 1908. There were 
plenty of opportunities to buy all sorts of 
stocks at a bargain at that time ; but if the 
investor had again selected New Haven, 
yielding 6.3 per cent, on an investment 
at 127, he would certainly have been war- 
ranted in sleeping soundly on his pur- 
chase. 

When the 1908 report came out, how- 
ever, he would have been shocked to 
learn that not only had the earnings 
dropped off to 5.4 per cent. — which was 
not unnatural in view of the depressed 
condition of business — but also the ope- 
rating ratio had risen to the surprising 
figure of 74.4 per cent. An examination 
of the report showed that this was due to 
a large increase in expenses for ''main- 
tenance of way" and ''maintenance of 



78 INVESTING FOR PROFIT. 

equipment/' both of which had been 
somewhat reduced in 1907. 

The investor would naturally reach the 
conclusion that the very low operating 
ratio for 1907 had been achieved by let- 
ting the road and equipment run down, 
and that this deterioration had to be 
made up in 1908, a year of poor business. 
He would be dissatisfied and would get 
out of his holdings and look around for 
something else. 

That investors did exactly this is 
shown by the fact that the high price for 
this stock was 175 in June, 1909, while 
the high price for the average of 20 
standard rails was not reached until Sep- 
tember of that year, and in some indi- 
vidual cases, not until December. In- 
vestors were availing themselves of the 
strong spots to get out of their holdings. 
But as the high price of the stock for 
1908 had been only 161, our investor 
would have had ample opportunity to get 
a moderate profit even if he had delayed 
unreasonably long in purchasing in 1908. 

By 1910, earnings were again up to 
10.3 per cent., and the operating ratio 
down to 63.7 per cent., so that the in- 
vestor might have been warranted in tak- 
ing advantage of the very low prices of 



STANDARD RAILS. 79 

1911, if New Haven stock still looked 
attractive to him. 

The fact must again be emphasized 
that no sort of golden rule can be drawn 
from the figures given in the table, which 
can be applied to all conditions and cir- 
cumstances alike. The earnings and 
operating ratio simply give in the most 
condensed form the same information 
that any business man would collect and 
study if he were running a business of 
his own — the relation between earnings 
and expenses, and the per cent, earned on 
the investment. It is merely a common 
sense proposition, yet many inexperi- 
enced investors seem to find themselves 
confused by it. 

It is highly desirable for the student of 
investment conditions, who desires to 
profit from his investigations in a prac- 
tical way, to keep a note book or some 
rough memoranda showing the progress 
of all the principal railroads. The form 
of table shown in the preceding chapter 
is the best for that purpose, as giving a 
more comprehensive view. The time re- 
quired to compile the figures is unimport- 
ant, as the reports on which the table is 
based appear only once a year. 

With these data at hand, the investor 



30 INVESTING FOR PROFIT. 

at once notices any important change in 
the condition of any company, and by 
comparison with other companies he can 
quickly discover whether the change is 
due to special conditions affecting that 
company alone, or is a result of more 
general causes, which are affecting all 
the roads together. 

When he has learned in this way to 
keep his finger on the pulse, as it were, of 
each railroad system, he will begin to see 
many opportunities for switching his 
capital from a road which has stopped 
growing to one which is apparently just 
beginning to grow, or from a road which 
has finished a growing period to one 
which has completed a movement of con- 
traction and retrenchment and is again 
ready for a new forward swing. 

Exact information, intelligently di- 
gested and broadly viewed, is the princi- 
pal requisite for success in investing for 
profit. 



VI — Buying Industrial Stocks 

WE cannot apply all of the same 
principles to industrial stocks 
that we have applied to rail- 
roads, because hardly any industrials fur- 
nish the public with complete statistics 
as to their operations. In buying most 
industrials, the investor is always some- 
what in the dark. 

To be sure, he can form his opinion 
from current news reports, or from his 
knowledge of the activity of the business 
in which the company is engaged, or 
from deductions made from net earnings 
and dividends as given out in the annual 
reports. But this is a different thing 
from working on such definite statistics 
as are given out monthly and yearly by 
the railroads. 

This fact need not discourage the 
would-be investor for profit. If there is 
one thing in the science of investment 
that needs to be emphasized more repeat- 
edly than any other, it is that no rules can 
be laid down. We can only apply to every 



82 INVESTING FOR PROFIT. 

proposition the same practical business 
intelligence that we would apply in 
the management of our own personal 
affairs. 

In fact, the title of these chapters 
might almost as well be "The Applica- 
tion of Common Sense in Buying and 
Selling Securities/' as 'Tnvesting for 
Profit." Each case must be considered 
on its own merits, on the facts that are 
available, and by whatever method is 
most practicable under the circumstances. 
That is the reason why I am to such a 
large extent following the plan of study- 
ing actual examples of different securi- 
ties, rather than confining myself entirely 
to abstract principles. 

The most prominent industrial com- 
pany in the world is the United States 
Steel Corporation. How could the in- 
vestor secure profits in addition to in- 
terest in buying its stocks? It will af- 
ford us a convenient and useful example. 

First, what do we know about the 
steel business? We know — 

That it has been enormously profitable, 
having made more millionaires than any 
other industry. 

That its products are of a staple char- 
acter, so that the consumption of them 



INDUSTRIAL STOCKS 83 

must continue and grow from decade to 
decade. 

That stocks of raw material can be car- 
ried almost indefinitely, with but little 
expense beyond the loss of interest on 
the money tied up in them. 

That in times of dull business at home, 
steel products can be exported in large 
quantities at prices which will at least 
keep the plants in operation, though 
profits may be small. 

That in times of active business, profits 
are very large, probably larger than in 
almost any other line. 

On the other hand, we know that the 
steel trade is always ''a prince or a pau- 
per," according to business conditions. 
Steel and iron products are used very 
largely in new construction of all kinds. 
Hence, when there is general confidence 
in business circles, and new construction 
is proceeding rapidly everywhere, the 
demand for steel is greater than the sup- 
ply. But when new construction is 
checked, whether by financial stringency, 
political uncertainties, temporary exhaus- 
tion of capital, or for any other reason, 
then the demand for steel falls oflF very 
sharply and suddenly, and a considerable 
time may elapse before it revives. 









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IXDUSTRIAL STOCKS. 85 

Plainly, if the investor can buy steel 
stocks near the beginning of one of these 
periods of expanding activity, he is as- 
sured of a profit in addition to his divi- 
dends. If his purchase is made at such 
a time, he can sell out at his leisure, either 
when his stock is as high as he thinks it 
reasonablv should be on the basis of the 
dividends it pays, or when the steel in- 
dustry has reached such a degree of ac- 
tivity that he thinks the probabilities are 
against further gains. He will never get 
top prices, but should always get a fair 
profit. 

Of the various steel companies, the 
United States Steel Corporation controls 
nearly half the business of the country 
and presents to the public far more com- 
plete and accurate statistical information 
than any other company. Its annual re- 
ports contain about everything one could 
ask for. Its earnings are given out quar- 
terly. The amount of unfilled orders on 
hand were also published quarterly up to 
June 30, 1910, but since that date they 
have been given out monthly. 

It is easily possible to figure out the 
operating ratio of this company, on the 
same plan as applied to railroads ; but it 
is doubtful whether as good results could 



86 INVESTING FOR PROFIT. 

be obtained as with the railroads, on ac-= 
count of the sudden fluctuations in the 
steel business. 

Moreover, we have a much better class 
of statistics available for this company. 
The unfilled orders on hand represent 
future business, and a knowledge of the 
future business of the company is cer- 
tainly much more valuable to the investor 
for profit than a study of past business. 

Let us examine these unfilled orders 
for a period of years, and see if they af- 
ford any useful indications as to the prob- 
able future movements of the price of 
Steel stocks. Everyone understands, of 
course, that many other influences will 
enter into the making of the price. But 
the great thing, after all, with an indus- 
trial company, is getting the orders. It 
might reasonably be supposed that orders 
on hand would be so much more effective 
than any other considerations as to exer- 
cise a strong degree of control over the 
price. 

In order to study the relation between 
unfilled orders and the price of the 
stocks, we must get the statistics before 
us in some intelligible form so that we 
can examine them in detail. The method 
here employed is that generally used by 



INDUSTRIAL STOCKS 87 

statisticians. It is very quickly under- 
stood and can be applied by any one with- 
out any special knowledge, wherever sev- 
eral classes of contemporary statistics are 
to be compared and analyzed. 

The first statement of unfilled orders 
was given out in 1902. Therefore, in the 
diagram herewith, we begin with that 
year and allow an equal space from left 
to right for each year up to 1912. Then 
we lay out a price scale on the left side 
of the diagram for the price of Steel 
common, and another scale for the 
amount of unfilled orders. When com- 
pleted, the diagram shows the progress 
from year to year of both the price of the 
stock and the amount of unfilled orders, 
permitting a fairly close comparison of 
the general movements of these two fac- 
tors. 

We use the price of the common stock 
because it is, of course, more directly in- 
fluenced by the prosperity of the business 
than the preferred stock, and therefore 
has fluctuated more w^idely. The com- 
mon, however, did not pay dividends 
throughout the entire period shown on 
the diagram. For about two and one- 
half years, 1904 to 1906, dividends were 
suspended ; and during that time the in- 



88 INVESTING FOR PROFIT. 

vestor for profit would naturally have 
selected the preferred stock, which has 
paid 7 per cent, regularly. The price of 
the preferred has followed that of the 
common in a broad general way, but 
with som.ewhat narrower fluctuations. It 
is omitted from the diagram to avoid pos- 
sible confusion. 

During 1902 and 1903, we see that the 
price of the stock moved substantially in 
harmony with the rise and fall of the un- 
filled orders. In the middle of 1904, 
however, there is a further decline in 
orders, while the price of the stock con- 
tinues generally upward. This was due 
to the fact that the price of the stock 
had been abnormally depressed in 1903 
by the financial panic, and in 1904, with 
the return of easy money, a great part of 
the depression was soon recovered. 

In other words, a great change in the 
money market caused this stock to move 
in some degree independent of any 
change in orders; but the variation is 
slight, and merely caused the stock to ad- 
vance a little ahead of orders, since the 
orders rose very sharply at the end of 
1904. 

Throughout 1905, 1906 and 1907 the 
correspondence between the movements 



INDUSTRIAL STOCKS. 89 

of orders and stock is really surprisingly 
close. In 1908, we have a repetition of 
the conditions of 1904. A very easy 
money market, following the panic of 
1907, caused the stock to rise sharply in 
advance of any increase in unfilled or- 
ders. 

In 1909 and 1910, there is a general 
correspondence in the movement of the 
two lines on the diagram, but in 1911, fol- 
lowing the severe liquidation of 1910, the 
price again precedes the upward move- 
ment of orders, though in this instance 
but slightly, because the depression of 
1910 was not severe. In 1912 again a 
close correspondence is shown. 

We see, therefore, that the changes in 
unfilled orders do have a very direct con- 
nection with the movement of the price 
of the stock. But it is one thing to see 
this fact and quite another thing to take 
advantage of it in a practical way. 

In 1904 and 1908 the investor might 
well have bought Steel — or almost any 
other stock — as soon as the panic was 
over and easier money conditions began 
to return. In 1911, he probably would 
not do this, because we had no real panic 
in 1910. If the investor had the courage 
and wisdom to buy in these panics, he 



90 INVESTING FOR PROFIT. 

could then be guided in part by the un- 
filled orders as to how long he should 
hold his stocks. 

But let us assume temporarily that the 
investor has no knowledge of panics or 
of the money market and is depending 
solely on the company's unfilled orders in 
shaping his course. Could he, by this 
extremely simple plan, get a profit in 
addition to his interest? 

In each of the three periods of depres- 
sion shown on the diagram we note the 
following facts: 

(1) Unfilled orders, after a sharp de- 
cline, remain at a low level for about one 
year. 

(2) During the latter part of this year 
the price of the stock begins to advance. 

(3) After the year is over the unfilled 
orders also increase sharply. 

(4) In both 1906 and 1909, the high 
price of the stock and the high record of 
orders came at practically the same time. 

(5) The diagram gave no positive in- 
dication as to when the end of these ad- 
vances was imminent, but a very sharp 
advance in either the price or the volume 
of orders would naturally have been ac- 
cepted as a warning of over-extension. 

If the investor based his operations on 



INDUSTRIAL STOCKS. 91 

unfilled orders alone, he would naturally 
buy United States Steel stocks in 1904, 
after unfilled orders had remained at a 
low level for about six months, and the 
price had begun to show an advancing 
tendency. The price of the common 
stock was then about $20 a share. 

In 1906 the rapid advance in orders 
and the sharp price movement, together 
with the excited speculation w^hich then 
existed, would be likely to convince him 
that such a pace could not be maintained. 

Moreover, in 1906, Steel common paid 
only 1^ per cent, dividends and sold at 
a high price of 50^, while the preferred, 
paying 7 per cent., touched 11354- These 
prices were evidently high for industrial 
stocks paying no greater dividends than 
those mentioned, which had sold within 
three years at 8^ and 49^, respectively. 
Ordinary business prudence would coun- 
sel tlie investor that the period of growth 
for these stocks was near its culmination, 
and that the conservative course would be 
for him to dispose of them and look about 
for another opportunity. 

Early in 1908, our investor, again ap- 
plying the same principles, would buy 
Steel common at perhaps 40 or 45, and 
somewhere before the high price of 94^ 



I 



92 INVESTING FOR PROFIT. 

in 1909, he must certainly have concluded 
that his stock was high enough for its 
dividends and prospects, especially as un- 
filled orders were following but slug- 
gishly. 

In 1911, he would perhaps have bought 
at about 60, and would have seen his 
stock decline to 50 on his hands; but it 
has since sold above 80 in spite of the 
government suit, proposed tariff reduc- 
tion and the general scarcity of capital. 

The principal point I desire to empha- 
size in this connection is the general 
method of study suggested. There are 
three steps in this method : 

First, a careful consideration of the cir- 
cumstances surrounding the business of 
whatever company you are studying. 

Second, a systematic examination of 
the statistics which portray these circum- 
stances most clearly. 

Third, the working out of a common- 
sense way of taking advantage of the 
facts brought out by your study. 

Such a method would never be fast 
enough to suit the speculator ; but it will 
enable the conservative investor for profit 
to seize many favorable opportunities. 



VII— Buying Stocks in Dull Times 
— Mining Stocks 

WHERE complete statistics are 
not available in regard to the 
earnings of a stock from 
month to month, or even quarterly, it 
is more difficult for the investor for 
profit to see his way clearly. Yet if he 
is watchful for opportunities he will 
in many cases be able to form a sound 
opinion as to the early future of nu- 
merous companies. 

The year 1908, for example, afforded 
many opportunities to buy industrial 
stocks at low prices. How could the 
investor select the best stocks for his 
purpose — that is, the stocks which 
were likely to have the best advances? 

Turning to the "Bargain Indicator,'' 
which appears in every issue of The 
Magazine of Wall Street, we see that 
in 1908, a year of general depression, 
very few stocks earned more than in 
preceding years. In many cases the 
falling off was very sharp. United 



94 INVESTING FOR PROFIT. 

States Steel common earned 15.7% in 
1907 and only 4% in 1908; American 
Smelting & Refining, 12.8% in 1907 
and 7% in 1908; National Enameling 
& Stamping, 6.7% in 1907, compared 
with a deficit of 2.1% in 1908, and so 
on with many others. 

The exceptions to this rule of de- 
clining earnings are naturally worthy 
of particular attention. In some cases 
there may be special reasons for these 
exceptions; but as a general proposi- 
tion we may say that any stock which 
could increase its earnings in a year 
when most other companies were 
showing sharp declines, would be like- 
ly to prove a good stock to own. 

The first example in the current 
''Bargain Indicator" is American Malt 
Corporation preferred, which earned 
10.6% in 1908, against a deficit of 4% 
in 1907 and earnings of 2.8% in 1906. 
Referring to any one of the standard 
investment manuals, we find that this 
company was incorporated in 1906 as 
a holding company to take over the 
stocks of the American Malting Com- 
pany, which had been a non-dividend 
payer for years. The earning power of 
the corporation was not sufficiently 



f 



BUYIXG IX DULL TLMES. 95 

well established to warrant the in- 
vestor in purchasing. 

The International Harvester Com- 
pany earned 7.8% in 1908, against 6.5 
in 1907, and 5.1% in 1906. This was 
really a remarkably fine showing. We 
also find, on looking the company up, 
that it w^as setting aside yearly about 
one quarter of its income for various 
reserves — insurance, renewals, pen- 
sions, depreciation, contingent losses, 
etc. Dividends had not then begun. 

We would be justified in assuming 
that here was an exceptionally good 
stock to buy. The annual reports were 
complete and satisfactory, and the 
gross business of the company was 
growing rapidly year by year. The 
large earnings must soon be distrib- 
uted in dividends, or if not distributed 
they would pile up into a surplus which 
would result in much higher prices for 
the stock. 

International Harvester Company 
sold as low as 52 in 1908 and 62 in 
1909. In 1910 a 33 J/3% stock dividend 
was declared, with a 4% cash divi- 
dend on the whole capital, thus in- 
creased. In April, 1911, the stock was 
put on a 5% basis. The high point 



96 INVESTING FOR PROFIT. 

for the stock was 129^ in 1911, and 
126% in 1912. 

The next stock on the list to show 
increased earnings in the depressed 
year of 1908 was United States Realty 
& Improvement — 7^T%^ against 6% in 
1907 and 4.8% in 1906. The company 
was incorporated in 1904 and controls 
the George A. Fuller Construction 
Company, Plaza Hotel Operating 
Company, and various other New York 
realty enterprises. In 1908 it was a 
standard company and doing a growing 
business. Dividends of 4^4% were be- 
gun in 1908, 414% was paid in 1909. 
and 5% from 1910 to date. The stocK 
rose from 36j4 in 1908 to 86>^ in 
1912. 

Here was another stock which had 
exceptionally good prospects, as shown 
by its annual earnings and general bus- 
iness outlook. All that the investor 
needed was our old standard prescrip- 
tion, common sense. 

Corn Products, then a new company, 
earned 8.5% on its preferred stock in 
1908, against 7.2% in 1907, but was not 
well enough established to be attract- 
ive. Also, this company's fiscal year 
ends February 28, so that 1908 earn- 



BUYING IN DULL TIMES. 97 

ings were all made in 1907, with the 
exception of two months. 

National Biscuit earned 8.1% in 
1908, 7.6% in 1907, and 7.1% in 1906. 
The fiscal year ends January 31, so that 
1908 earnings were mostly made in 

1907, but the following year showed 
up almost equally well at 7.4%. Divi- 
dends were 4% in 1905, 5% in 1906, 
5^% in 1907, and 6% in 1908. The 
company was very ably managed and 
its business was growing steadily. 

The investor had an opportunity to 
buy this stock at 68 in 1908, and even 
the highest price for that year was only 
97. Dividends were further increased 
and the stock sold at 161 in 1912. 

A similar increase in earnings under 
generally unfavorable conditions was 
shown by People's Gas Light & Coke 
—6.9% in 1906, 7.6% in 1907, 8.4% in 

1908. This company has a perpetual 
charter oi a very broad character and 
growth of the city of Chicago is behind 
its earnings. On the other hand, mu- 
nicipal regulation of the price of gas 
is an obstacle to increased profits. Div- 
idends have been paid regularly since 
1897. In 1908 the stock sold between 
80 and 106>2, and in 1912 between 103 



98 INVESTING FOR PROFIT. 

and \22y2, the dividend in the mean- 
time having been raised from 6% to 

7%. 

American Telephone & Telegraph 
earned 10.1% in 1908, as compared 
with 9.0% in 1907, and 8.2% in 1906. 
The great strength of this company is 
too well known to require comment, 
and its earnings in 1908 were a splendid 
testimony to its independence of in- 
dustrial reactions. The price in 1908 
swung between 101 and 1329^, and in 
1911 the stock sold at 153. The divi- 
dend has been 8% throughout. 

Utah Copper earned 23.3% in 1908, 
against 5.9% in 1907, when it was just 
starting operations. The investor 
would not have cared to buy this stock 
unless he knew something about the 
value of the mines and prospect for 
earnings. At that time the average in- 
vestor did not know much about these 
points. 

We have since come to understand 
that a porphyry copper is a manufac- 
turing proposition, and that ore sup- 
plies m_ay be very definitely estim_ated, 
without the uncertainties that exist in 
other mining enterprises. It is unnec- 
essary to say that if the investor had 



BUVIXG IX DULL TIMES. 99 

sufficient information in 1908, so that 
he could feel confidence in Utah's fu- 
ture, he would have made splendid 
profits by purchasing its stock. It sold 
at 20 in 1908 and at 67 in 1912. 

American Car & Foundry earned 
23.8% in 1908, against 20.1% in 1907 and 
4.5% in 1906. It is characteristic of 
equipment companies that their peri- 
ods of big earnings are always six 
months to a year behind those of most 
other companies. This is noticeable 
likewise in American Locomotive's 
earnings. Moreover, the Car & Foun- 
dry fiscal year ends April 30. Hence 
these big 1908 earnings were really 
chargeable to 1907 business. 

Earnings on Car & Foundry dropped 
off very sharply in 1909 and have not 
yet fully recovered. Nevertheless this 
stock sold at 25>4 in 1908, rose to 76^^ 
in 1909, and ranged from 49^ to 63^ 
in 1912. In 1908 it was paying 3%, 
now 2%. 

The investor would not have bought 
this stock unless he had acted without 
a full understanding of the conditions; 
but if he had bought it he could easily 
have secured a satisfactory profit with- 
in a year. The wide fluctuations in the 



100 INVESTING FOR PROFIT. 

earnings of equipment companies are 
well understood by investors, so that 
the price of the stock was not affected 
as much as would be the case with a 
railroad, for example. 

It is to be borne well in mind that 
it is increasing earnings in a year of 
depression that gives the warrant for 
buying the stocks of a company on this 
plan. In a year of increasing business, 
enlarged earnings would not have any 
such significance. That is the time 
when all stocks should be showing bet- 
ter results. 

The investor for profit is looking for 
bargains. Hence he must buy at re- 
latively low prices. When the big 
earnings appear in a period of booming 
business, it is much more likely to be 
time to sell out than time to buy. 

The average investor will not wish to 
do much in mining stocks, because, 
from the very nature of the business, 
it is rarely possible to estimate with 
any accuracy future profits from the 
mines. Mining — aside from some of 
the porphyry copper enterprises — is 
not a business ; it is a form of exploita- 
tion. A mining company simply takes 
metal out of the ground and distribute^ 



BUYING IX DULL TIMES. 101 

in form of dividends to the owners of 
the mine. When the ore gives out, the 
dividends give out also. 

Hence an investor in a mining stock 
must always be, in a sense, an investor 
for profits, as his company does not 
earn dividends in the same way that a 
railroad or an industrial corporation 
earns them. 

The time to buy a mining stock is 
when it is an assured prospect, and the 
time to sell is when the dividends are 
at their height. An experienced min- 
ing man lays down the following rules 
for the buyer of mining stocks : 

(1) A mine must be well located in 
an ore-bearing district. 

(2) The investor must know that the 
management of the mine is both cap- 
able and honest. 

(3) Buy when the company is in the 
prospect stage, before it begins the 
payment of dividends. 

(4) When you can double your 
money, sell out, even though large div- 
idends are then being paid. You may 
get only a fraction of the possible ad- 
vance, but you will have a big profit 
and you will have your capital in hand 
and be ready for something new. 



VIII— When to Buy and When to 

Sell, as Shown by the New 

York Bank Statement 



IX investing for profit, the element of 
time is the most important — even 
more important than selecting the 
securities of a growing company. 
What is the right time to buy and the 
right time to sell? This is the main 
question which must always be present 
in the mind of the investor. 

Within the last five years a great 
deal of attention has been devoted to 
"Fundamental Statistics," so-called, in 
the eflfort to arrive at the time to buy 
and the time to sell by an analysis of 
the statistical situation from week to 
week or month to month. We have 
now available from various sources a 
great variety of statistics covering the 
money market, banking conditions, 
crops, prices and production in numer- 
ous lines of industry, etc. 

The students of these fundamentals 



104 INVESTING FOR PROFIT. 

are undoubtedly doing a most valuable 
work, and are laying the foundation 
for a far more intelligent analysis of 
financial and industrial conditions in 
the future than has ever been possible 
in the past; but it cannot be said that 
they have as yet had any striking suc- 
cess in forecasting the trend of the 
stock market. Half a dozen or more 
of them are now making public the re- 
sults of their studies, and it unfortu- 
nately happens that they are very 
rarely found to agree. As they are all 
pursuing similar methods, this tends 
to cast a doubt on the accuracy of their 
results. 

A year or more ago I studied and 
charted for a period of ten or fifteen 
years all the so-called ''fundamentar' 
statistics. 

Most of these studies were thrown 
into the waste basket because, how- 
ever interesting and suggestive the 
statistics might be to the business 
man, they shed no light on the future 
of the stock market. Such figures as 
combined railroad earnings, iron pro- 
duction, merchandise imports and ex- 
ports, etc., and even to some extent 
bank clearings, move in lines following 



NEW YORK BANK STATEMENT 105 

the stock market or contemporaneous 
with it. They do not, so far as I can 
discover, shed important light on the 
future of the market, except in a very 
indirect and inconclusive way. 

This is not said in depreciation of 
the value of such statistics. They are 
most important in their bearing on the 
business situation and should be 
watched by every business man who 
aspires to be well informed. But they 
do not predict the stock market. 

This should occasion no surprise. 
It is a generally accepted fact that the 
market discounts future events, that 
the prices of stocks anticipate all great 
changes in the activity of business, and 
afford a better index to coming de- 
velopments than can be obtained in 
any other way. Yet the same student 
who admits all these things is very 
likely to be heard referring to declin- 
ing railway earnings, for example, as a 
bearish influence on the stock market. 
Future railway earnings will, of course, 
seriously affect the market, and if you 
have any way of finding out what they 
will be, good for you — go ahead ; but 
past raihvay earnings are like past 
prices — interesting, but no longer af- 



106 INVESTING FOR PROFIT. 

fording opportunities for profit in the 
market. 

I found, however, one great factor 
which precedes stock prices, and that 
(is the accumulation or dissipation of 
idle capital. It is the machinery of the 
stock market, which, directly or in- 
directly, supplies great business enter- 
prises with the money to buy loco- 
motives or structural steel or lumber 
or what not, and with money to pay 
out as wages in the enlargement of 
their plants or the building of new 
ones. The money thus put into circu- 
lation is the life-blood of the body 
politic. It gradually spreads through 
every artery of traffic, stimulating ac- 
tivity and growth. Hence why should 
we seek in industry the key to the 
stock market? It is capital that gives 
the initial impulse. 

But the first resting place of this 
money as it accumulates, before ever 
it reaches the stock market, is in the 
banks. And when such capital ceases 
to accumulate or even begins to shrivel 
away, it is the banks that pay it out. 
Hence we may expect in banking con- 
ditions some anticipatory reflection of 
the movements of the stock market. 



NEW YORK BANK STATE;MEXT. 107 

It is therefore very desirable for thci 
investor to study banking conditions! 
carefully and to keep his knowledges 
of the banking situation as closely up 1 
to date as possible. In order to bring 
out clearly the methods by which this 
may be done, it is well to review briefly 
the fundamental principles of banking. 

A bank is a dealer in credits. It ex- 
ists primarily for the purpose of ac- 
cepting deposits. For these it some- 
times pays a small rate of interest, or 
it may pay for them indirectly by the 
safety and convenience afforded the de- 
positor. To insure the repayment of 
these deposits when called for, the 
bank is required to keep on hand a cer- 
tain per cent, of its deposits in cash. 
It is then free to loan out these deposits 
on satisfactory security. There are, 
then, three elements in the situation : 
deposits, cash reserves, and loans. 

The cash reserve must not be less 
than a certain fixed proportion to de- 
posits, and this fact also places a rough 
limit on loans; for each loan increases 
the general supply of credit and this 
credit soon turns up somewhere else 
in the form of a deposit. Thus the 
growth of loans is ordinarily accom- 



108 INVESTING FOR PROFIT. 

panied by a growth of deposits, and the 
growth of deposits is limited by cash 
reserves. 

But this relation between deposits 
and loans is a very elastic one. The 
bank may loan not only its deposits 
but also, if it desires, a part of its capi- 
tal, surplus, undivided profits, and its 
issue of currency. Hence in a time of 
great activity, loans will forge ahead 
of deposits, and when the contraction 
comes, loans will fall faster than de- 
posits. 

Phrases commonly met in the news- 
papers are "the over-extension of 
loans," "an over-extended banking po- 
sition," etc. These phrases are mis- 
leading. The safety of a bank is indi- 
cated by the proportion of its cash re- 
serve to its deposits. Can it pay on 
demand? That is the important ques- 
tion. Of course a loan on insufficient 
collateral or to a person whose credit 
was poor would endanger the bank 
just as any other mismanagement 
would. But the mere expansion of 
well-secured loans does not endanger 
the bank. On the contrary, it is good 
and profitable banking. 

The danger from "over-extension of 



NEW YORK BANK STATEMENT. 109 

loans" arises from the opposite side — 
that of the borrower. When loans in- 
crease much more than deposits, it 
shows that the business men of the 
country are increasing their current 
liabilities as compared with their quick 
assets. Such a condition is unhealthy 
and cannot proceed very far without 
resulting in embarrassments and fail- 
ures. 

We need, then, to study the relation- 
between deposits on the one side, and ; 
cash reserves and loans on the other. I 
By a systematic examination of these 
factors we discover not only the con- 
dition of the banks themselves, but 
also, to a very large extent, the con- 
dition of the depositors in these banks. 

This point is worth bringing out 
still more clearly, as it does not seem 
to be generally appreciated. The re- 
lation of the banks to their customers 
may be called reciprocal. If the banks 
have relatively large deposits, that 
means that business men have turned 
over to the banks large sums of money 
for which they have at the moment 
no other use — their surplus, we might 
put it. On the other hand, if the loans 
of the banks are more extended than 



110 INVESTING FOR PROFIT. 

usual, this means that business men 
need the money — that their current op- 
erations are requiring more money 
than they have at immediate command. 
These additional supplies of money 
(of course I am using the term money 
here in the ordinary commercial sense, 
meaning liquid capital) may be needed 
because of a rapid increase in the vol- 
ume of business transacted, or because 
business is being done at less than cus- 
tomary profit, so that business men are 
getting ''hard up." 

The banks cannot increase their de- 
posits or loans at will. Their function 
is receptive. Their deposits and loans 
reflect the prosperity or adversity of 
their customers. A study of the bank- 
ing situation gives an index not only 
to the relative strength or weakness of 
the banks themselves, but also to the 
soundness or unsoundness of general 
business conditions. 

Thus the feature of banking which 
interests us most is the expansion and 
contraction of credit. Since modern 
business is done so largely on credit, 
we find in credit something of a guide 
to business conditions, therefore to the 
probable profits or losses of the cor- 



NEW YORK BANK STATEMENT. Ill 

porations doing the business, and 
thence to the value of their stocks as 
recorded on the Stock Exchange. 

To estimate the effect of the expan- 
sion and contraction of credit on stock 
prices, we must first arrive at some ap- 
proximate measure of credit. Of 
course it is not possible to measure 
credit exactly, as it may be extended 
by all kinds of banks and trust com- 
panies, by private bankers, or by indi- 
viduals. 

The broadest indication we have of 
the condition of credit is found in the 
statements of all the national banks in 
the United States as reported to the 
Comptroller of Currency at Washing- 
ton, whenever he calls for them, usu- 
ally five times a year. State banks and 
trust companies operate under the 
same general conditions as the national 
banks, so that an extension of credits 
by one class of institutions all over the 
country is practically certain to be ac- 
'companied by a similar increase among 
the others. Likewise private bankers 
and private individuals, although not 
subject to the same restrictions in re- 
gard to cash reserves as the banks, find 
it impossible to enlarge their credits 



112 INVESTING FOR PROFIT. 

to any important extent when the 
banks are contracting, and have no in- 
ducement to contract when the banks 
are expanding. 

The condition of all national banks, 
therefore, now numbering about 7,400 
and having aggregate resources of 
nearly $11,000,000,000, is a pretty re- 
liable index of the state of credit. 

A difficulty arises here, since these 
reports are compiled only five times a 
year, and at somewhat irregular inter- 
vals, and the complete statement is 
never available sooner than thirty days 
after the date for which reports are 
made up. In fact, a delay of six weeks 
sometimes occurs before this informa- 
tion reaches the public. Therefore, in 
keeping track of the Comptroller's re- 
ports for all national banks, we are al- 
ways four to six weeks behind actual 
conditions, and at times we are likely 
to be three or four months behind. 

As the stock market is generally 
credited with being somewhat ahead 
of current conditions, in the effort to 
discount the future, it is plain that 
bank returns several months old will 
not answer our purpose. 

But the statement of the New York 



NEW YORK BANK STATEMENT. 113 

banks and trust companies included in 
the clearinghouse is available every 
week, and the actual condition of Fri- 
day is given out at noon Saturday. The 
cash reserves of the New York Clear- 
inghouse institutions in September, 
1912, were over $564,000,000, while the 
cash held by all national banks in the 
United States was $895,000,000. For 
the same month the total bank clear- 
ings of New York City were $7,430,- 
000,000, compared with $5,730,000,000 
for all the rest of the United States. 

Roughly speaking, we may say that 
nearly half the banking business of the 
country is done by the New York 
clearinghouse banks, and this certainly 
should be a large enough proportion to 
shed important light on the credit sit- 
uation. 

Moreover, the New York banks are 
far more intimately connected with the 
stock market than those of other cit- 
ies. Practically all sales of stocks and 
bonds on the Exchange are primarily 
paid for by checks on New York banks, 
and nearly all loans on New York 
stocks as collateral are made by New 
York banks. This is, of course, the 
principal reason fgr the prominence of 



114 INVESTING FOR PROFIT. 

the clearinghouse banks Jn the financial 
situation ; and it also establishes a close 
connection between those banks and 
the stock market. 

As every one knows, two bank state- 
ments are given out every Saturday — 
the ''average" and the ''actual." In the 
"average" statement each item is the 
sum of the daily totals of that item for 
the six business days, Saturday to Fri- 
day, divided by six; that is, the state- 
ment shows the average condition of 
the banks for the six days. The "ac- 
tual" statement gives the exact figures 
at the close of business on Friday. 
This has been made public only since 
January, 1908. 

Still more recently the principal trust 
companies have also been admitted to 
the clearinghouse, so that the bank 
statement now commonly published in 
the newspapers includes both banks 
and trust companies. These combined 
figures have not been given out long 
enough to permit of satisfactory com- 
parisons with previous years; hence 
for that purpose we are obliged to con- 
fine ourselves to the New York clear- 
inghouse banks, excluding the trust 
companies. The statement for the 



XEW YORK BAXK STATEMENT. 115 

banks alone is published every week in 
the Saturday edition of the New York 
Evening Post, the Sunday Times and 
other papers. 

We have seen that the one great fac- 
tor observable in current statistics 
which precedes the movements of the 
stock market, is the accumulation and 
the melting away of liquid capital 
which is lying temporarily idle in the 
banks. The accumulation of such cap- 
ital is indicated by rising deposits and 
stationary or falling loans, and its dissi- 
pation is shown by rising loans or fall- 
ing deposits. 

For example, take the conditions fol- 
lowing the panic of 1907. General 
business was suddenly checked by the 
great difficulty, and, indeed, for a time, 
the impossibility of getting credit. As 
much less business was being done, less 
capital was required to handle it, so 
that early in 1908 idle capital began to 
pile up in the banks, in the form of 
both cash and deposits. Loans, on the 
other hand, showed a tendency to de- 
crease, as it was not necessary for 
business men to borrow much money 
to handle the small amount of business 
then doing. 



116 INVESTING FOR PROFIT. 

The banks all over the country found 
idle money accumulating in their 
hands, and as soon as they became sat- 
isfied that panic conditions were over, 
they began forwarding this idle capital 
to their banking connections in New 
York City, where they could get a 
small interes.t on it and could recall it 
whenever needed at home. This forced 
the money rates at New York down to 
a low level, so that speculative invest- 
ors could borrow money very cheaply 
with which to carry stocks. 

Now it is to be borne in mind that the 
prices of stocks are made by those who 
wish to buy or sell. The thousands of 
investors who bold^their stocks for in- 
come only and never enter the market, 
have absolutely no influence on prices 
— so long as they do not buy or sell. 
Hence this liquid capital which is con- 
tinually flowing back and forth from 
general business into Wall Street and 
out again, has an influence on prices 
entirely disproportionate to its actual 
amount. 

When this capital is available, it is 
pretty sure to be used before long in 
bulling the stock market. When this 
capital is withdrawn, high money 



NEW YORK BANK STATEMENT. 117 

rates result and prices must soon come 
down. Big speculators may attempt 
to fight against high interest rates for 
a time, but if they persist they eventu- 
ally come to grief; for general business 
can pay a higher time (not call) rate for 
money than the speculator can. In other 
words, prices are advanced on the 
Stock Exchange with the surplus cap- 
ital which is left over from general 
business requirements, and general 
business will always take the money 
away from the stock market as soon as 
it is needed for other purposes. 

Absolutely the first place where idle 
liquid capital makes its appearance is 
in the banks, and when this capital be- 
comes busy again it disappears from 
the banks. 

In the next chapter we will take up 
the practical application of the princi- 
ples above explained. 



t 



IX— The New York Bank State- 
ment (Concluded) 

WE are now in a position to under- 
stand why the relation between 
deposits and loans of New York 
banks afford such a valuable index to the 
movements of the stock market. 

The first step, in order to study the in- 
terdependence between the bank state- 
ment and the stock market, is to spread 
out the statistics for a series of years in 
such a way that they can be readily ex- 
amined and analyzed. This is done by 
plotting a diagram showing the excess 
of deposits over loans (or deficit under 
loans, as the case may be) and the con- 
temporaneous movements of the stock 
market. 

How far back shall this diagram be 
carried? Very little would be gained 
by studying the bank statements during 
the disturbed epoch of the Civil War, 
the reconstruction period and the re- 
sumption of specie payments. The con- 



120 INVESTING FOR PROFIT. 

ditions of that time were so different 
from the present that we could not ex- 
pect to draw any useful deductions. 

During the 80's and 90's banking con- 
ditions were, in general, similar to those 
of today, yet there are some important 
diiferences. For example, during the 
last ten years the per cent, of loans to 
deposits of all national banks in the 
United States has varied between 101 
and 111 ; but between 1890 and 1896 this 
per cent, swung from 115 to 130. The 
lowest point of the 90's was higher than 
the highest point of the last ten years. 

It is desirable to understand the reason 
for the great decrease in the proportion 
of loans to deposits shown by this com- 
parison. 

First, we must remember that the loan- 
able funds of a bank include not only its 
deposits, but also its other available re- 
sources. Roughly speaking, the bank 
may loan out not only the money depos- 
ited with it by business men, but also its 
capital, surplus, undivided profits, and 
its issue of currency, or circulation, as it 
is commonly called. 

Bearing this point in mind, we find 
that although the per cent, of loans to 
deposits was very much higher in the 



XEW YORK BANK STATEMENT. 121 

80's and the 9(Ts than it has been since 
1900, the per cent, of loans to all loanable 
funds was pretty much the same. 

This simply means that the banks are 
now doing a much larger proportion of 
their business on other people's money 
than was the case previous to 1897. In 
the six years of tremendous prosperity 
from 1897 to 1902, the people piled their 
money into the banks so fast that depos- 
its leaped from $1,640,000,000 on De- 
cember 17, 1896, to $3,112,000,000 on 
April 30, 1902. This tremendous inrush 
of new deposits took place without any 
corresponding increase in the rest of the 
bank's loanable funds. 

The question may be raised whether 
this plan of banking on the other fellow's 
money does not leave the banks in a vul- 
nerable position. A bank's deposits are 
subject to withdrawal on demand, while 
its capital and surplus are not. If three- 
quarters of the bank's loans are based on 
deposits, is the bank in as strong a posi- 
tion as w^hen only half its loans are based 
on deposits? 

The answer to this question is : ''Yes, 
provided the bank's loans are of such a 
character as to be called in within a rea- 
sonable time." The strength of the bank 



122 INVESTING FOR PROFIT. 

does not hinge upon the amount of its 
loans or the extent to which those loans 
are based on other people's deposits, but 
upon the character of the loans and upon 
the cash reserves which are kept on hand 
to back up the deposits. 

The per cent, of cash reserves is fixed 
by law and there has been no change in 
this respect during recent years, so far 
as national banks are concerned. The 
question of the character of a bank's 
loans depends on the management, but in 
view of the close supervision exercised 
by the United States Government over 
the national banks it is rare that any 
trouble arises from this source. 

For the reasons explained above, I 
confine my study of these factors to the 
last quarter-century, and I place much 
less weight upon the statistics of the 
80's and the 90's than upon those from 
1900 to date. 

The first diagram begins with the low 
prices of 1885, after the small business 
depression of 1884, and continues to 
1901. The zero line represents equality 
of loans and deposits for the New York 
clearing house banks. The scale above 
the zero line represents excess of depos- 
its over loans in millions of dollars, and 







































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124 INVESTING FOR PROFIT. 

below the line a deficit of deposits under 
loans. On the lower part of the dia- 
gram is shown the average price of ten 
leading stocks for the same period.* 

It will be seen at once that a rapid pil- 
ing up of excess deposits, as shown at 
the points marked (a) on the diagram, 
was followed in every case by an ad- 
vance of greater or less proportions in 
stocks. Also, the loss of excess depos- 
its, shown at the points marked (b), was 
followed by a decline in stocks. We 
might say that excess deposits are the 
fuel which builds up the blaze of specu- 
lation, and when the fuel is exhausted 
the blaze dies down. 

During the years 1893 to 1896 the ac- 
tion of this law was partially deranged 
by doubts as to the maintenance of the 
gold standard for money. Gold is, of 
course, the basis of credit. A rapid ac- 



*The diagram was prepared from the figures given 
in Professor Norton's "Statistical Studies in the New 
York Money Market," and in Henry Hall's "How 
Money is Made in Security Investments." The dia- 
gram is not plotted from week to week, but fairly 
represents the general course of the figures. The 
term "surplus deposits" is sometimes used for excess 
deposits, by analogy from surplus cash reserves, but 
is misleading because there is no fixed or necessary 
relations between deposits and loans, hence there can 
be no true surplus. It also increases the danger of 
confusion between surplus reserves and surplus de- 
posits. 



NEW YORK BANK STATEMENT. 125 

cumulation of excess deposits as shown 
at the points (a) is always accompanied 
by a piling up of cash reserves in the 
banks. In 1894 we had an accumula- 
tion of cash reserves and bank deposits 
such as would ordinarily have resulted 
in a big rise in the market, but the actual 
advance in prices was small because of 
the possibility that the value of these 
big gold reserves might be cut in two if 
our currency was forced on a silver 
basis. 

In 1896 these fears became still more 
acute and resulted in the hoarding of 
gold, so that deposits were pulled down 
below the zero line at the point marked 
(x), and the stock market lost the mod- 
erate advance which it had made in 1895. 
With the gold standard once established, 
deposits began to accumulate again and 
the biggest bull market in the history of 
the country followed. 

The second diagram, covering the 
years 1902 to 1912, has been much more 
carefully compiled. The line of excess 
deposits was plotted from week to w^eek 
throughout, and the average of twenty 
leading railroad stocks below vshows all 
important fluctuations. Surplus cash re- 











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NEW YORK BANK STATEMENT. 127 

serves are shown in addition to excess 
deposits. 

The surplus reserves do not afford as 
good an index to the situation as the ex- 
cess deposits, because they cannot re- 
main for any length of time below the 
zero line. The banks are required by 
law to maintain the amount of surplus 
reserves represented by the zero line on 
the diagram. Reserves rise with ex- 
cess deposits, and in a general way also 
fall with them until the zero line is 
reached, but from that point they cease 
to be a reliable guide. 

The deposit-loan line on this diagram 
has been corrected to eliminate merely 
seasonal deviations. Every autumn the 
Xew York banks are called to fur- 
nish large sums of money for ''crop- 
moving/' as it is called ; that is, to pay 
the farmer for his crops as they come to 
market. There is also a small outflow 
of money in March, in preparation for 
spring planting. During the rest of the 
year this money is gradually coming 
back to New York. 

A change in excess deposits due mere- 
ly to the season of the year is of no value 
as indicating the broad movements of 
the stock market : hence it is desirable, 



128 INVESTING FOR PROFIT. 

though perhaps not absolutely necessary, 
to allow for these deviations. 

The method of doing it was simple. 
First a monthly average for the entire 
period of 132 months was obtained, then 
the average for each one of the 12 
months separately. A comparison of the 
two showed the per cent, to be added or 
subtracted in each month in order to get 
rid of the seasonal changes. I am aware 
that expert mathematicians would find 
fault with this method in certain minor 
particulars, but it is near enough for our 
purpose. 

The following approximate changes 
were found to be necessary in order to 
get the non-seasonal line : 

DEPOSITS. 

January, add 3.9% 

February, subtract 0.8% 

March, add 0.2% 

April No change 

May, subtract 1.0% 

June, subtract 1.9% 

July, subtract 2.6% 

August, subtract 3.8% 

September, subtract 1.7% 

October, add 0.8% 

November, add 2.5% 

December, add 5.2% 



XEW YORK BANK STATEMENT. 129 
LOANS. 

January, add 3.8% 

February, add 0.2% 

March, add 0.4% 

April, add 0.2% 

May, subtract 0.1% 

June, subtract 0.6% 

July, subtract 1.5% 

August, subtract 2.3% 

September, subtract 1.7% 

October, subtract 0.5% 

November, add 0.4% 

December, add 2.0% 

This diagram will repay a careful ex- 
amination. For four years preceding 
1902 a liberal margin of excess deposits 
had been continuously maintained. The 
figure of $80,000,000 touched in Janu- 
ar}', 1902, was, however, somewhat 
lower than the high points of all the four 
preceding years. The highest had been 
nearly $140,000,000 in 1899. This 
showed some falling off in the quantity 
of idle money available for use in the 
stock market, but there was still enough 
for the purpose. 

From January to September, 1902, ex- 
cess deposits fell steadily, reaching the 
zero point in the latter month. During 



130 INVESTING FOR PROFIT. 

this period the stock market gradually 
advanced. The high point was 129.36 
for the average of 20 rails, which com- 
pared with a previous high point of 
117.86 reached May 1, 1901. When the 
excess deposits finally shriveled to the 
zero point, in September, 1902, call 
money jumped to 25 per cent, and a 
sharp break in the stock market resulted. 

This gave the bull market a shock 
from which it was not able to recover. 
A small excess of deposits was restored 
in January, 1903, but was soon lost 
again, and it was not until January, 
1904, that a normal excess was restored. 
During this time the trend of the stock 
market continued downward to a low 
point of 90 at the end of August, and 
practically the same low figure was 
touched again in March, 1904. 

Excess deposits were now piling up 
again rapidly and the market soon felt 
the effect. Prices advanced almost con- 
tinuously for a year, and after some re- 
actions again forged upward to 138.36 
in January, 1906. By this time excess 
deposits were again down to zero and in 
the closing week of 1905 call loans 
touched 125 per cent. 

A severe decline followed, which was 



XEW YORK BAXK STATEMEXT. 131 

accentuated by the enormous destruc- 
tion of capital in the San Francisco 
earthquake and fire. In the latter half 
of 1906 almost this entire decline was 
recovered. Some recovery from such 
an emphatic break was natural, but there 
is no doubt that prices were forced 
higher than otherwise would have been 
the case by the bullish efforts of a small 
group of multi-millionaires. This w^as 
the time chosen by ]Mr. Harriman for 
raising the Union Pacific dividend to 10 
per cent., and every device w^as apparent- 
ly exhausted to force prices to the high- 
est possible notch. 

All this fight was made against the 
money market, as would be expected 
when w^e see that there w^as a constant 
deficit of deposits under loans through- 
out the year. Call money touched 13 
per cent, in August, 40 per cent, in Sep- 
tember, 9 per cent, in October, 27 per 
cent, in November and 36 per cent, in 
December. 

The effort of these gentlemen to prove 
their supremacy over economic law 
could not be called successful. How 
much they succeeded in lightening their 
load of securities will never be known, 
and indeed it is sometimes claimed that 



132 INVESTING FOR PROFIT. 

they found themselves more heavily 
committed after their campaign was 
over than they had been before. At any 
rate they were large and continuous sell- 
ers in 1907, and at least one of them suf- 
fered reverses of fortune at this time 
from which he was never able to recover. 

Prices declined all the more rapidly as 
the result of having been artificially sus- 
tained. Even the ''Silent Panic" of 
March, 1907, was not enough to clear the 
atmosphere, and the disastrous crash of 
October was the final outcome. 

With the restoration of surplus re- 
serves and excess deposits early in 1908, 
another bull market began which lasted, 
with the usual reactions, throughout 
1909. In November of that year excess 
deposits were once more used up, and 
promptly with the new year a prolonged 
bear market started. 

In August, 1910, the excess of deposits 
was restored, as a result of heavy liqui- 
dation in the stock market and imports 
of gold from abroad. From that time, 
upward progress was slow and irregular 
and made in the face of many difficulties, 
both political and economic, at home and 
abroad, but in October, 1912, a new high 
point was established for stock prices 



NEW YORK BANK STATEMENT. 133 

since 1910. At almost the same time 
the excess deposits, which had been 
wavering uncertainly for two years, 
finally disappeared and a drop in prices 
followed. 

The question is likely to be asked, 
"Why not simply depend on call money 
rates as an index instead of going to all 
this trouble?'' The answer is that the 
call money rate is itself, to a larger ex- 
tent than excess deposits, a function of 
the stock market, which we are attempt- 
ing to forecast. In 1901, for example, 
call money touched 10 per cent, or higher 
in five months out of the twelve, yet this 
resulted in nothing more than a big re- 
action in the market and the general bull 
movement continued to much higher 
prices in 1902. 

The high call money rate was due to 
excited speculation and not to any real 
weakness in financial conditions. 

In 1909, on the other hand, the high- 
est rate for call money w^as 7 per cent., 
and during most of the year the money 
market was very easy. In fact the high- 
est prices of that year were made in a 3 
per cent, call money market. Specula- 
tion was only moderately extended ; but 
fundamental financial conditions were 



134 INVESTING FOR PROFIT. 

unsatisfactory and a bear market ensued. 

The rate for commercial paper affords 
a better gauge of conditions and is well 
worth studying, but it is not as closely 
representative of the stock market situa- 
tion as the excess deposits of the New 
York banks. 

Of course it is understood that the re- 
lation of deposits and loans is far from 
being the only important factor influenc- 
ing the market. Sometimes it may be 
comparatively unimportant, for the time 
being, as in the fall of 1906, or in 1894-5, 
both of which cases have been mentioned 
above; or in August, 1911, when a com- 
bination of a foreign war scare and anti- 
trust suits begun by the United States 
Government caused a big reaction in 
prices. 

But the fund of excess deposits avail- 
able for stock market purposes is the best 
index to the broad movements of the 
market. A weakness here renders the 
market easily vulnerable to other bearish 
considerations and unresponsive to bull- 
ish developments; while strength here 
enables prices to resist attack and to 
move upward easily when favorable 
news announcements are made. 

I don't know of any one simple point 



XEW YORK BANK ST ATEMFA'T. 135 

in connection with the stock and money 
markets that is so well worth careful 
watching as this. It will not satisfy 
day-to-day speculators. In fact it is 
doubtful if anything would ever satisfy 
that class of traders. But the investor 
for profit will find that this index to 
banking conditions gives him a sound, 
common-sense grasp of the fundamental^ 
facts in the financial situation. ' 

In a word, then, the time to buy is 
when excess deposits begin to pile up 
rapidly, and the time to sell is when these 
excess deposits are exhausted. The pur- 
chaser may perhaps have to wait some 
time for an advance, as in 1893 to 1896, 
but if he has bought only sound dividend- 
paying securities he can stand the delay 
with considerable fortitude, as he w^ill be 
receiving a satisfactory interest on his 
monev all the time. 



X How to Interpret the Action of 
the Market 

HOW much attention, if any, should 
the investor for profit pay to the 
stock market from day to day or 
from week to week? Has he anything to 
gain from w^atching current fluctuations 
and volumes, or studying the general be- 
havior of the market ? 

We may answer at once that he should 
pay relatively little attention to these 
things. Earnings and values, growth of 
population and of business, dividends 
and money rates, political conditions and 
the accumulation of capital in the banks, 
are of far more importance and sig- 
nificance to the investor than any indica- 
tions he can draw from the temporary 
and often erratic fluctuations of prices. 

Yet this question of the action of the 
market should not be entirely ignored. 
It is a well-known fact that some pro- 
fessional speculators are able, by care- 
fully watching the technical indications 
derived from a study of volumes and 



138 INVESTING FOR PROFIT. 

prices, to make more money during the 
year than they lose. 

This is very far from being the ideal 
of the investor for profit. He wishes to 
keep himself always in a safe position 
and his first concern is a satisfactory in- 
terest return on his money. But the 
above fact does show that the action of 
the market is a subject worthy of some 
slight attention in connection with, but 
strictly subordinate to, other more im- 
portant matters. 

What are the elements with which the 
student has to work, in endeavoring to 
interpret the action of the market ? This 
is a point on which even those who are 
constantly in touch with the technical sit- 
uation are apt to have only a hazy and in- 
definite notion. 

Reduced to its lowest terms, the ac- 
tion of the market includes only three 
basic factors : 

(1) Price. 

(2) Time. 

(3) Volume; that is, the number of 
shares bought and sold at a certain price 
or during a certain time. 

Each of these three factors may be re- 
corded or used in dififerent ways, and the 



INTERPRETIXG THE MARKET. 139 

three, or any two of them, may be com- 
bined according to different plans. 

Without going into the numerous ways 
in which these factors are recorded and 
studied by speculators, a few practical 
observations may be offered which will 
be of use to the investor. 

First, no important conclusions can be 
obtained from any one of the three fac- 
tors, taken alone. It is the varying re- 
lations between two or three of them 
that serve to give the market a sort of 
character of its own. 

Second, the element of time must al- 
ways be included. Thousands of stu- 
dents have w^asted a great deal of more 
or less valuable brain-powder in trying to 
draw conclusions from a combination of 
prices and volumes, without reckoning 
in the lapse of time. In my opinion, it 
can't be done. 

Third, a study of time and volume 
without prices would be meaningless, as 
the investor cannot buy or sell except at 
some price. 

These principles simplify matters some- 
what. There are, in fact, only two com- 
binations left: (1) Price and Time; and 
(2) Price, Time and Volume. 

In manv markets volumes are not re- 



140 INVESTING FOR PROFIT. 

corded. They are not obtainable in any 
of the English markets, either for stocks 
or for commodities, so far as I am aware. 
They have never been recorded on the 
Chicago Board of Trade. They were 
formerly sent out on the cotton tickers, 
but the practice was discontinued some 
years ago, as the market got so big that 
it was very difficult to keep track of 
them. 

Even in the New York Stock Market 
there is a good deal of inaccuracy about 
the recording of volumes, and the totals 
as figured up by the ticker companies and 
newspapers can be accepted as approx- 
imate only; but the errors (aside from 
occasional clerical or typographical mis- 
takes) are not great enough to interfere 
seriously with any conclusions to be 
drawn. 

Almost all investors glance over the 
stock list in their morning papers to ob- 
serve the general movement of the mar- 
ket, and notice the total of transactions 
for the day; but if they depend only on 
their memories for past prices and past 
volumes, and for the time that has 
elapsed since those prices and volumes 
were recorded, they fail to get any ade- 
quate idea of the action of the market. 



IXTERPRETIXG THE MARKET. 141 

It is desirable, and, in fact, almost nec- 
essary, to keep some brief record from 
day to day, or at least from week to 
week. 

The most practical way to do this is to 
make a simple "graphic" of the average 
of the prices of a considerable number 
of prominent stocks, usually twenty or 
more. The investor records each day 
the average of the high prices of all the 
stocks selected, the average of the low 
prices, and the average of the closing 
prices. Several daily papers compute 
and publish such averages daily, to save 
work for their readers. One of the best 
is found in the New York Times, which 
averages twenty-five railway stocks, also 
twenty-five industrials, and then com- 
bines the two into an average of fifty 
stocks. 

The best way to keep this record is to 
use paper ruled into small squares, plac- 
ing the scale of prices at the left and the 
dates day by day at the top. Then a 
short line is drawn under each date, ex- 
tending from the point on the scale rep- 
resenting the avera.^e hic^h price to the 
point for the average low, with a tick on 
the right side of the line showing the 
average closing price. 



142 



INVESTING FOR PROFIT. 



The following small illustration will 
make the meaning clear : 



Dates. 



, I • ^ • V • • * < • < t » • I , I \ < t I , 



li- 
lt- 



ttE 



H4^ 



rK t- 



rm 



y^oJwmcS- 




Since only two factors can be recorded 
on a graphic by a single line, it is neces- 
sary to add another line along the bot- 
tom of the chart to represent the volumes. 
For this purpose it is best to use the total 
sales for all stocks, whether included in 
the averages or not, as what you want is 
a general picture of the whole market, 
as nearly as it can be obtained. A scale 
of one hundred thousand shares to the 
space, at the lower lefthand corner of 



IXTERPRETIXG THE MARKET. 143 

your chart, enables you to carry a con- 
tinuous line across the paper showing 
the variations in the total transactions 
from day to day. 

Individual stocks can, of course, be 
handled in the same way if desired, but 
the investor will not usually care to 
bother with these, as he will select his 
stocks on the basis of earning power, in- 
terest return, etc. What he wants to get 
from his graphic is a general view of the 
entire market. 

When he has this graphic, what can he 
get from it? 

He is chiefly interested in the highest 
prices and the lowest prices over a period 
of a year or two, as he has no intention 
of trying to catch intermediate speculative 
fluctuations. Are there any distinguish- 
ing features of the market at these grand 
turning points? 

Common sense tells us that the lowest 
prices are likely to be made when the 
most people are trying to sell, and the 
highest prices when the greatest number 
are anxious to buy. We shall expect, 
then, that the volume of sales will be 
relatively large at the top and the bottom, 
and this conclusion is blorne out by his- 
torv. 



144 INVESTING FOR PROFIT. 

A heavy trade in stocks is pretty sure 
to be accompanied by relatively wide 
fluctuations in prices — the whole market 
gets bigger, in every way. So we find 
that at these turning points the range of 
prices for the day, as shown by the length 
of our lines on the graphic connecting 
the average high with the average low, 
will be relatively wide. 

After a period of heavy selling pres- 
sure, buyers are not likely to rush in the 
moment the selling ceases. They fear 
a renewal of the liquidation, and will only 
begin to buy gradually, as the market 
becomes quieter and more settled. Con- 
sequently a period of activity — that is, 
big volumes and wide daily ranges — at 
low prices, is usually followed by a time 
of dullness without any very great change 
in the general level. 

The same principle, of course, applies 
after great activity at high prices ; but 
the period of activity may be longer and 
the period of dullness shorter than at 
the bottom, because speculation is nat- 
urally broader at high prices and the 
public participation in the market more 
general. 

The mistake must not be made of sup- 
posing that the action of the market alone 



IXTERPRETIXG THE MARKET. 145 

will indicate the top and the bottom. It 
will not. Conditions will determine those 
points, and the investor will often be mis- 
led if he tries to depend solely on the 
principles mentioned above. 

To illustrate, the market may decline 
sharply to a low level, with big volumes 
and wide ranges, and then turn dull. 
But this does not tell us whether prices 
will not later fall to a still lower level, 
with still heavier volumes and still wider 
fluctuations. Something of this kind 
happened in 1907. After the ''Silent 
Panic*' of March, the observer might 
have imagined that bottom had been 
struck, but the conditions which caused 
the decline had not been cured. (We may 
note especially that there was still a large 
deficit of deposits under loans in the 
New York banks.) A still greater smash, 
in October, 1907, was necessary to lay 
the foundation of a new bull market. 

These periods of extreme prices and 
big markets come only occasionally. In 
the mean time, can the investor draw any 
conclusions as to the "trend'' of prices? 
He must be very cautious in endeavoring 
to do so. This is a difficult art, and few 
have the time or the special talent to mas- 
ter it. 



146 INVESTING FOR PROFIT. 

Probably the best indication of the 
trend of the market that is easily availa- 
ble to everybody, is found in the com- 
parison of the total volume of trade on 
days when the market moves sharply 
upward, with the volume on declines. In 
a bull market, buyers come in on the ad- 
vances. In a bear market, they refuse 
to do so. In a bear market, holders are 
urgent to sell on declining prices. In a 
bull market, they hold on stubbornly. 

The result is that, in a bull market, the 
volume of trade is likely to increase on 
the advances, while in a bear market it 
will probably become heavier on declines. 
But this principle can only be interpreted 
and applied to the market by long study 
and careful observation. The novice finds 
many stumbling blocks. 

One of them is that he is almost sure 
to lay too great weight on small move- 
ments, caused only by professional op- 
erations. Professional traders make 
prices temporarily, but they have very lit- 
tle influence on the general trend of prices 
over a considerable period. They are 
merely trying to follow this trend, not to 
make it. The attitude of investors cre- 
ates the trend, and no useful indications 
as to its direction can be gained from 



IXTERPRETIXG THE MARKET 147 

tiuctuations caused only by professional 
speculators. 

Another point is this : Increased pub- 
lic buying, causing a larger volume at 
higher prices, is a characteristic of a bull 
market; but if this is followed by de- 
creased volumes on a reaction, nothing 
is shown except the cessation of buying 
— there is no guaranty that it will be re- 
newed, though perhaps there is usually 
some probability that it may be. And a 
similar principle applies, of course, to a 
bear market. 

One other observed fact in regard to 
broad market movements may be men- 
tioned, as possibly of some service under 
certain conditions. After a prolonged 
period of dullness the investor may often 
be in doubt as to the next probable move. 
The market may be in a state of balance, 
and merely waiting a new impulse, which 
may be in either direction. 

In such cases, the first sharp move on 
increased transactions is likely to be con- 
tinued for some distance. The reason of 
this is that speculators, tired of inaction, 
will follow^ the new^ lead until they see 
some signs of its becoming exhausted. 

This little point is sometimes useful 
to the investor. For example, he might 



148 INVESTING FOR PROFIT. 

consider prices relatively high and might 
be hesitating whether to take his profits 
or wait for a further advance. Under 
such circumstances, if a stationary mar- 
ket suddenly turned weak on larger vol- 
ume of trade, he would perhaps accept 
this as a warning that the time had come 
to turn his stocks into money. 

The investor will be positively injured 
by any study of the action of the mar- 
ket if he allows himself to be diverted 
from his original purpose and led astray 
into the byways of speculation. Active 
trading in stocks is a vocation, and a 
very exacting one; but investing for 
profit may safely be followed as an 
avocation, with only a moderate amount 
of attention. 

Trying to mix active trading with in- 
vesting is as bad as mixing drinks. 



XI— What to Do With Idle Money 

T.IERE will of course be times when 
the investor for profit cannot see 
any attractive opportunity for the 
use of his money in stocks or bonds. He 
may feel that the general financial situa- 
tion is so doubtful that even the best of 
securities may be pulled down with the 
others ; or he may be able to find plenty 
of good, growing companies, in which 
he would gladly invest at lowxr figures, 
but the market may be at such a high 
level that he is unwilling to pay current 
prices. 

In such cases he will find his money 
temporarily idle and the question at once 
arises, What is to be done w^ith it pend- 
ing the development of a suitable oppor- 
tunity for re-investment? 

It is easy to exaggerate the importance 
of this question. Even supposing his 
money lay in a bank without any inter- 
est for a year, the loss of interest could 
hardly be figured at more than 5 per 
cent., and if as a result of this delay the 



150 INVESTING FOR PROFIT. 

investor was able to buy some standard 
stock ten points lower than he could have 
bought it at the time his money was first 
released, his profit from the transaction 
might reasonably be considered as twice 
the amount of the interest lost. 

We have, however, laid down the prop" 
osition that the investor for profit should 
consider safety and rate of interest first, 
and then should make whatever addi- 
tional profit he can as opportunity arises. 
If he places profit first he becomes prac- 
tically a speculator and much that has 
been included in these chapters would 
not accurately meet his requirements. 

The first point that naturally occurs to 
us is that 2 or 3 per cent., and in some 
localities 4 per cent., can be obtained by 
placing idle money in a trust company, 
rather than in a national bank. In New 
York it is difficult to get more than 2 or 
2J^ per cent, on checking accounts from 
the strongest trust companies, but in 
many outside cities 3 per cent, is easily 
obtainable, and in the newer sections of 
the country 4 per cent, and in some cases 
even more. 

Good private banking houses in New 
York City pay 3 per cent, on checking 
accounts, but the investor will not care 



IDLE MONEY. ISl 

to place his funds with them unless he 
has a pretty good knowledge of the men 
in charge. Some private bankers are as 
sound as any trust company and may be 
even more conservative in the handling 
of their funds, but the difficulty for the 
ordinary investor comes in separating the 
sheep from the goats. For such a trifle 
as 3^ or 1 per cent, yearly he cannot 
take any chances whatever. 

No one can afford to place his money 
with the trust company or the private 
banker offering an exceptionally high 
rate of interest. The high rate would 
not be offered unless there were some 
reason for it, and that reason usually is 
that the concern has difficulty in getting 
money at the current rates paid by other 
houses similarly situated. In other 
words, they are not fully trusted by 
those having large capital at command; 
and if that is the case they certainly 
should not be trusted by those whose 
capital is smaller. 

The instance comes to mind of a 
large New York trust company which 
advertised a few years ago for check- 
ing accounts, offering a slightly greater 
rate of interest than would usually be 
paid on such accounts. A year or two 



152' INVESTING FOR PROFIT. 

later the company was in the hands of 
a receiver. 

Still more recently a national build- 
ing and loan company advertised rather 
widely offering about half of 1 per cent, 
more interest than paid by others. It 
had been doing this for five years or so ; 
but the time came when the State bank- 
ing department refused to permit it to 
continue longer in business owing to the 
insufficient security behind its borrow- 
ings. To any one understanding the 
business of a building and loan associa- 
tion, this additional one-half per cent., 
in the circumstances under which it was 
offered, was like a red flag. 

If the investor has any considerable 
sum — say $10,000 or more — of idle 
money, about the only way he can get 
better than trust company interest on it 
is to put it into commercial paper, short 
term notes, or bonds that mature at an 
early date. 

The objection to this is that he never 
knows just when a big decline in the 
market may come which would put prices 
on a plane where he would want to buy 
stocks or bonds. It might happen that 
just at the moment when he wanted his 
money to invest, it would be tied up in 



IDLE MOXEY. 153 

short term notes, and when the notes 
matured the opportunity might have 
passed. 

In any ordinary market, however, he 
could use his notes as collateral with his 
broker or trust company for the pur- 
chase of the stocks or bonds wanted. 
As he would buy outright, not on mar- 
gin, he would simply be transferring his 
funds from the short term securities in- 
to others. At even 60 per cent, of their 
value, the notes would give him a credit 
of 60 per cent, on the stocks he wants 
to buy. This would, of course, be ample 
under any ordinary cricumstances. 

Once or twice w^ithin the last twenty- 
five years there have been intervals of 
a few days when it would have been dif- 
ficult to get brokers to accept any col- 
lateral whatever, no matter how^ gilt- 
edged, because it was practically impos- 
sible for them to borrow money on any 
terms. As a rule, however, the investor 
would prefer, in these exceptional cases, 
to wait until the extreme pinch of panic 
was over before buying, even if he had 
to pay a few dollars more per share for 
his stocks. 

He can't expect to buy at the bottom. 
The attempt to do so would be likely to 



154 INVESTING FOR PROFIT. 

result in his buying too soon and having 
to stand a further dedine. And even if 
he were to make up his mind beforehand 
to jump in and buy at the very worst 
moment of the panic — or what he 
thought to be the worst moment — the 
chances would be 100 to 1 that when the 
time came he wouldn't have the courage 
to do it. 

The fact is that when the investor ap- 
pears at his broker's office with a per- 
fectly good $10,000 short-term note in 
his hand and says, "I want you to take 
this and buy me $10,000 worth of sound 
investment stocks," the broker is going 
to leave no stone unturned to finance the 
deal. It may be questioned whether 
most brokers wouldn't have managed it 
somehow, even in the darkest days of 
1907. 

In the selection of short-term notes, 
commercial paper, or long-term bonds 
having an early maturity there is a wide 
range of choice, and consultation with 
your banker or brokerage house is de- 
sirable. The rate of interest obtainable 
will generally be from 4^ to 6 per cent., 
though there were times in 1906 and 
1907 when 7 per cent, could be had. 

Quite recently the holding company 



IDLE MONEY. 155 

idea has been applied to commercial 
paper. Companies have been fornied to 
buy two-name paper of many different 
firms and to issue on this paper as a 
basis, their own collateral lien notes at 
perhaps one-half per cent, less interest, 
having practically any date of maturity 
desired by the purchaser. This dis- 
tributes the risk in such a w^ay as to 
make the notes exceptionally good — as- 
suming, of course, that the central com- 
pany is honestly and competently 
managed. 

In this matter the small investor has 
an advantage over the larger one, be- 
cause the amount of money he will wish 
to withdraw when he is ready to buy 
will be relatively unimportant to the in- 
stitution which parts with it. He will 
therefore have less trouble in getting it 
promptly under conditions of financial 
stringency. He can also advantageously 
make use of two classes of institutions 
which have been created for the special 
benefit of the man whose capital is lim- 
ited — the savings bank and the building 
and loan association. 

Even the investor with $10,000 or 
more can use the savings banks and 
building and loan a^^^ociations hv dis- 



156 INVESTING FOR PROFIT. 

tributing his money about in half a doz- 
en or a dozen different institutions, so 
that the amount to be drawn from each 
one when needed would not be so large 
as to require notice before withdrawal. 
Such a distribution of funds has the ad- 
vantage of greater safety, as the loss 
from the failure of some one institution 
would be relatively small. It is consid- 
erable trouble, however, when the in- 
vestor wants all his money, to collect it 
together from so many different sources. 

The investor with a few hundred or 
a few thousand dollars can easily get 4 
per cent, interest by placing his funds 
in two or three savings banks. The thing 
that may prevent him from doing so is 
the "sixty-day clause,'' which permits 
the bank to require sixty days' notice of 
withdrawals whenever its officers con- 
sider that necessary. Under ordinary 
conditions notice is not required on 
small sums; but the investor remembers 
that stocks and bonds sell lowest under 
extraordinary conditions, so that the 
sixty-day rule might be enforced just 
when he wanted his money. 

In fact, this was the case in 1907. 
The savings banks were enforcing this 
rule, at least nominally, for a month or 



IDLE MONEY. 157 

more after the worst of the panic was 
over. 

It should be borne in mind, however, 
that the rule applies chiefly to actual 
cash. The small depositor who wants 
his money in the form of a check, for the 
purpose of buying stocks outright and 
paying for them in full, can get it in 
practically every case by using a little 
persistence. If the cashier has not been 
given the authority to make any excep- 
tions from the rule, some higher officer 
of the bank w^ill usually do so if con- 
sulted. 

The savings banks apply the rule for 
the protection of their depositors, not to 
cause them inconvenience. The bank's 
officers would be likely to frown upon 
margin purchases, but the real investor, 
who explains frankly what he wishes to 
do and wants a check to do it with, 
nearly always gets it. The buyer of 
stocks in a panic is performing an im- 
portant public service, and the intelli- 
gent bank official will look at it in that 
light. 

Brokers, also, will do everything pos- 
sible to help the small investor in such 
cases. If the bank depositor cannot get 
his money from the bank, the broker 



158 INVESTING FOR PROFIT. 

will perhaps accept the bank book as a 
temporary deposit for the purchase of 
stocks or bonds in a panic. The broker, 
like the banker, would be likely to dis- 
criminate against the buyer on margin at 
such a time, but he welcomes the gen- 
uine investor who wishes to buy out- 
right. 

Those building and loan associations 
which are operated on the savings bank 
plan, as many of the larger ones now 
are, receiving deposits and permitting 
withdrawals as desired, are worthy of 
more attention in this connection than 
they generally receive. They pay from 
4^ to 5 per cent, interest in the East 
and higher rates in other sections; and 
in 1907 no important association, so far 
as I can learn, was obliged to limit with- 
drawals. 

This is because the depositors in these 
associations are not of a class to be eas- 
ily frightened. Most of the deposits are 
made with a view to home-building, and 
depositors who would wish to withdraw, 
either from fear or for investment, in 
times of stringency, are so few in pro- 
portion to the whole number that their 
requirements are easily met. 

Some discrimination must be exer- 



IDLE MONEY. 159 

cised in regard to such associations. The 
so-called ^'national" building and loan 
schemes — that is, those associations or 
companies which have charters permit- 
ting them to place loans anywhere in the 
United States — must be religiously 
avoided. It is impossible for the author- 
ities of any State to oversee their opera- 
tions, and the national government has 
never done so effectively. Even the of- 
ficials of these national companies have 
often been inadequately informed about 
their own loans ; and in some cases they 
have apparently tried to see how closely 
they could balance on the line of fraud 
without being prohibited the use of the 
mails. 

Local building and loan associations, 
which can loan only within a restricted 
territory, have shown a good record for 
many years. In States where, as in 
New York, they are under tlie supervi- 
sion of State officials, they are as a rule 
ju?t as safe as the savings banks. Nat- 
urally, there can hardly be any better se- 
curity for loans than newly-built homes. 

Of course there is nothing to prevent 
the small investor from buying commer- 
cial paper, short-term notes, or early- 
maturing bonds, just the same as if he 



160 INVESTING FOR PROFIT. 

had more money. Consultation with the 
odd lot houses will usually put him in 
touch with something issued in small 
denominations that will meet his re- 
quirements. Some of the companies 
which issue their own collateral lien 
notes based on varied holdings of high 
grade commercial paper, as mentioned 
above, make these notes in any multiple 
of $100. 

The best general plan for the disposi- 
tion of money temporarily idle is doubt- 
less to distribute it in a number of the 
different ways mentioned above. One- 
third of your funds might be kept in a 
trust company or with a private banker 
at 2 or 3 per cent. ; another third in 
savings banks or building and loan as- 
sociations, and the last third in short- 
term notes or commercial paper. 

Such a distribution would contribute 
to safety and conditions could hardly 
arise which would prevent you from 
getting hold of enough money and ac- 
ceptable collateral to make your pur- 
chases at the right time. 

It may be added that there is no log- 
ical reason why you should not invest 
on the short side of the market at times 
when you do not wish to buy. But this 



IDLE MONEY. 161 

carries us a little out of the field we have 
marked out — namely, getting a profit in 
addition to regular interest. There is no 
good ground for the popular prejudice 
against short selling, but the principles 
to be applied to it are somewhat differ- 
ent from those here discussed. 



XII— The Three Sources of Profit 
in Buying Securities 

IN the twelve chapters of which this is 
the concluding number, I have en- 
aeavored to develop the subject in 
as simple and straightforward a way as 
possible, avoiding unnecessary technicali- 
ties, and yet covering in a fairly syste- 
matic manner the most important prin- 
ciples of the science. 

The reader has not failed to observe 
that my chief effort has been to bring 
this problem of investing for profit down 
from the clouds, in which it has been 
enveloped by statisticians, auditors, ac- 
countants and many financial writers, 
and to present it in such a way that the 
practical business man or investor may 
apply his natural common sense to the 
matter of buying and selling securities in 
much the same manner as he would ap- 
ply it in the management of his own per- 
sonal affairs. 

In summing up the principles of the 
science of investing for profit, we see 



164 INVESTING FOR PROFIT. 

that every opportunity for making a 
profit in this way must come under one 
of three different heads : 

(1) A transition in the money market 
from a high money rate to a low one. 

A continued high money rate naturally 
and necessarily means low prices for in- 
terest-bearing securities. When the con- 
jditions that have caused this abnormally 
high money rate pass away and money 
becomes plentiful, it again seeks employ- 
ment in interest-bearing securities, until 
the increased demand for these securities 
gradually lifts their prices to a higher 
level. The investor can participate in 
this upward movement by buying bonds 
or high-grade dividend-paying stocks as 
soon as the money situation takes a turn 
for the better, after a period of high 
rates. 

Three methods have been suggested 
by which such a purchase may be made 
intelligently : 

(a) When a perfectly sound security 
is selling at a price which gives a much 
larger interest return on the money in- 
vested in it than has been usual in the 
past history of that security, and larger 
than is usual for other similar securities, 
owing to a general high rate for money. 



THREE SOURCES OF PROFIT. 165 

the investor may buy it with confidence 
that it will sell at higher prices at some 
later date, when money conditions be- 
come easier. 

Likewise, when such a security reaches 
a price so high that the interest return on 
that price is abnormally low, the investor 
will sell, assuming that he w^ill later have 
an opportunity to repurchase at a lower 
price. 

(b) By consulting a graphic showing 
the excess of New York bank deposits 
over loans, or deficit under loans as the 
case may be, the investor can easily ob- 
serve when there is such a liberal ac- 
cumulation of capital in the banks as to 
forecast an overflow of that capital into 
securities, thus producing an upward 
movement of prices. In the same way 
he may note the disappearance of excess 
deposits which precedes a period of scar- 
city of capital and falling prices, and take 
an early opportunity to dispose of his 
security holdings. 

(c) By keeping a graphic showing the 
average high, low and closing prices of a 
well-selected list of stocks, together with 
the total volume of sales in the New 
York stock market, he will find the ac- 
tion of the market of some help in form- 



166 INVESTING FOR PROFIT. 

ing his opinion as to the best time to in- 
vest or to close out his investments. As 
for example, the period of quiet succeed- 
ing a disastrous panic, or dullness after 
a big speculative boom. The conclu- 
sions drawn from this source, however, 
must be kept strictly supplementary to 
other considerations and not used as a 
main reliance. 

(2) The second class of opportunities 
for investing for profit arise from the 
change from dull business to active busi- 
ness. This follows the transition from 
high money to low money, but after a 
considerable interval. The length of 
this interval cannot be determined in ad- 
vance. With good crops and quiescent 
politics the interval may be short, and 
bad crops or disturbing political condi- 
tions may lengthen it out to several years. 

All the three methods mentioned above 
will aid the investor in buying his securi- 
ties during a period of dull business, 
which will work out into renewed activ- 
ity. The low price is, of course, an es- 
sential element; and both the money 
market and the stock market give im- 
portant help by preceding or ''discount- 
ing", improved general business. I have 
also called attention to three other princi- 



THREE SOURCES OF PROFIT. 167 

pies which will aid the investor in mak- 
ing up his mind : 

(d) Per cent, of railroad operating 
expenses to gross earnings (Chapter V). 

(e) Advance orders of industrial com- 
panies on the books (Chapter VI). 

(f) Maintenance of relatively high 
earnings during dull times (Chapter 
VII). 

(3) The third class of opportunities is 
found in the selection of the securities of 
a company which must grow, because of 
the favorable conditions by which it is 
surrounded. In this case all of the six 
methods mentioned above will be applied 
as tests, either to the general situation 
or to the particular security under con- 
sideration. 

In additional, two other methods have 
been discussed : 

(g) Examination of the general con- 
ditions surrounding the company. 

(h) Study of the statistics covering 
the past history of the company and its 
securities. 

Both these subjects were taken up in 
Chapters VI, VII and VIII. 

The desire of the investor will be to 
combine all of the above methods, so far 
as possible, in deciding what and when 



168 INVESTING FOR PROFIT. 

to buy or sell. He will naturally begin 
by keeping in mind methods (g) and 
(h) ; that is, noticing the general devel- 
opment and progress of leading compan- 
ies and of different sections of the coun- 
try, and keeping a brief statistical mem- 
orandum of results shown by annual 
reports, as previously explained. 

In doing this, points (d), (e) and (f) 
will put in their appearance and be duly 
considered as a matter of course. 

The investor will soon have in mind a 
number of securities that seem to him to 
be especially in line for growth, and will 
plan to buy them — when the right time 
comes. 

In deciding on the right time, he will 
consider methods (a), (b) and (c). 
Method (a) requires no special prepara- 
tion. As for methods (b) and (c), I 
have fully explained the exact process of 
constructing the necessary graphics and 
keeping them up to date, together with 
the principles on which they are based ; 
but the actual work of compilation is 
being done by others, in case the investor 
prefers to take their figures instead of 
keeping his own. 

A number of mistakes may be briefly 
mentioned, which should be avoided. 



THREK SOURCES OF PROFIT. 169 

One of the most common is becoming 
wedded to some particular theory or 
idea, so that it assumes in your mind a 
much greater importance than it does in 
the minds of others. It is necessary to 
consider all the facts impartially and to 
maintain a well-balanced point of view. 

Another similar error consists in being 
influenced by some personal prejudice, 
political or otherwise. 

It is a mistake to push a mathematical 
or statistical deduction to its extreme 
conclusion. It is, in fact, quite notice-/ 
able that the man of mathematical taste' 
and training is not, as a rule, as good a . 
judge of investments as the one of a more ) 
practical business temperament. Mathe- 
matics lead us to an absolute conclusion 
provided our premises are assured ; but 
in business or investment studies, the 
selection of the right premises is the most 
important consideration. 

In general, any extreme conclusion is 
to be distrusted, for even if it is correct 
it will not be credited by the majority of 
investors and hence will not have its full 
effect on market prices. 

The worst mistake of all, probably, for 
the simon-pure investor for profit, is to 
be gradually led into an effort to catch 



170 INVESTING FOR PROFIT. 

relatively small fluctuations in the mar- 
ket. If you elect to be an investor stick 
to your chosen field, no matter what fine 
opportunities you may imagine yourself 
to be losing. If you want to speculate, 
learn how first, and keep your specula- 
tions strictly separate from your invest- 
ments. 

It may be asked, what profits can be 
expected from the application of the 
principles here explained? Results will 
differ widely with various persons, and 
at diflferent times with the same person, 
but an average return of 20 to 25 per 
cent, a year, including both interest and 
profits, is not an unreasonable ambition. 



PSYCHOLOGY 
STOCK MARKET 

By Q. C. SELDEN 

IT is a fact well recognized among 
practical traders and investors that 
all the smaller movements of prices and 
many of the longer swings are the re- 
sult of a condition of the public mind. 
A study of these psychological influ- 
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The stock market has a psychology of 
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A clear understanding is aff'orded of the 
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**Breaks ground in a new field." — 
Political Science Quarterly. 

CLOTH, PRICE $1.04 POSTPAID. 

The Magazine of Wall Street 

120 Liberty Street New York 



THE MAGAZINE 

OF 
WALL STREET 



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discuss each month: 

Business and Investment Conditions — the future, 
not the past. 

Fundamental Statistics — as they bear upon fi- 
nancial conditions. 

Special Opportunities in Bonds — pointed out by 
a well-known expert. 

Bargains in Stocks — as indicated by earning 
power. 

Railroad and Industrial Reports — analyzed and 
interpreted. 

Digest of Investment News — condensed from all 
authentic sources. 

The Market Outlook — factors beneath the sur- 
face of current events. 

Cotton — Frequent articles by practical students 
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The Forum — a suggestive department of com- 
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Current Financial Opinion — The cream of the 
best thought on Investment subjects. 

Scientific Methods of Investment — explained in 
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Analyses of Trader's Accounts, etc. — sliowing 
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The Most Important Factor 

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The tape gives very definite in- 
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Our Trend Letter, written from 
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tion. 

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How to Forecast Business 
and Investment Conditions 



•f rnilK CIOKU 



SUPPOSE you could sit by your evening lamp 
tonight and have a heart-to-heart talk 
with a successful investor and business 
man of 30 years' experience, who had accumu- 
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"HOW TO FORECAST BUSINESS AND IN- 
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business and of investment markets for the im- 
mediate future at any time, but also the causes 
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This book contains about 200 pages, substan- 
tially bound in ornamental cloth. The price is 
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YOU need it. Send your order today. 

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